UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-K
ANNUAL
REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE
SECURITIES EXCHANGE ACT OF 1934
For
the fiscal year ended December 31, 2007
Commission
file number 0-24531
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CoStar
Group, Inc.
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(Exact
name of registrant as specified in its
charter)
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Delaware
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52-2091509
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(State
or other jurisdiction of incorporation or organization)
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(I.R.S.
Employer Identification No.)
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2
Bethesda Metro Center, 10th Floor
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Bethesda,
Maryland 20814
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(Address
of principal executive offices) (zip code)
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(301)
215-8300
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Registrant’s
telephone number, including area
code
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Securities
registered pursuant to Section 12(b) of the Act:
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Title of Each
Class
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Name of Each Exchange
on Which Registered
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Common
Stock, $.01 par value
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NASDAQ
Global Select Market
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Securities
registered pursuant to Section 12(g) of the Act:
None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. Yes
o
No
x
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Exchange Act. Yes
o
No
x
Indicate
by check mark whether the registrant: (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements of
the past 90 days. Yes
x
No
o
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
x
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company. See the definitions of “large accelerated
filer,” "accelerated filer" and "smaller reporting company" in Rule
12b-2 of the Securities Exchange Act of 1934.
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Large
accelerated filer
x
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Accelerated
filer
o
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Non-accelerated
filer
o
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Smaller
Reporting Company
o
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Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes
o
No
x
Based on
the closing price of the common stock on June 29, 2007 on the Nasdaq Stock
Market®, Nasdaq Global Select Market®, the aggregate market value of
registrant’s common stock held by non-affiliates of the registrant was
approximately $722 million.
As of
February 15, 2008, there were 19,464,268 shares of the registrant’s common stock
outstanding.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
of the registrant’s definitive proxy statement, which is expected to be filed
with the Securities and Exchange Commission within 120 days after the end of the
registrant’s fiscal year ended December 31, 2007, are incorporated by reference
into Part III of this Report.
TABLE
OF CONTENTS
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PART
I
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Item
1.
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Business
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3
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Item
1A.
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Risk
Factors
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13
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Item
1B.
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Unresolved
Staff Comments
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18
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Item
2.
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Properties
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19
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Item
3.
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Legal
Proceedings
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19
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Item
4.
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Submission
of Matters to a Vote of Security Holders
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20
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PART
II
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Item
5.
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Market
for the Registrant’s Common Stock, Related Stockholder Matters and Issuer
Purchases of Equity Securities
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20
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Item
6.
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Selected
Consolidated Financial and Operating Data
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23
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Item
7.
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Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
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24
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Item
7A.
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Quantitative
and Qualitative Disclosures about Market Risk
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36
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Item
8.
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Financial
Statements and Supplementary Data
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36
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Item
9.
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Changes
in and Disagreements with Accountants on Accounting and Financial
Disclosure
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36
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Item
9A.
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Controls
and Procedures
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36
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Item
9B.
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Other
Information
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37
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PART
III
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Item
10.
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Directors,
Executive Officers and Corporate Governance
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38
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Item
11.
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Executive
Compensation
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38
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Item
12.
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Security
Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters
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38
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Item
13.
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Certain
Relationships and Related Transactions, and Director
Independence
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38
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Item
14.
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Principal
Accountant Fees and Services
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38
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PART
IV
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Item
15.
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Exhibits
and Financial Statement Schedules
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38
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Signatures
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39
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Index
to Exhibits
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40
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Index
to Consolidated Financial Statements
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F-1
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PART
I
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Item
1.
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Business
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(In this
report, the words “we,” “our,” “us,” “CoStar” or the “Company” refer to CoStar
Group, Inc. and its direct and indirect subsidiaries. This report also refers to
our websites, but information contained on those sites is not part of this
report.)
CoStar
Group, Inc., a Delaware corporation, is the leading provider of information
services to the commercial real estate industry in the United States (“U.S.”)
and United Kingdom (“U.K.”) based on the fact that we offer the most
comprehensive commercial real estate database available, have the largest
research department in the industry, provide more information services than any
of our competitors and believe we generate more revenues than any of our
competitors. CoStar’s integrated suite of services offers customers online
access to the most comprehensive database of commercial real estate information,
which has been researched and verified by our team of researchers, currently
covering the U.S., as well as London and other parts of the U.K. and parts of
France. Prior to 2007, CoStar operated within one segment. Due to the increased
size, complexity and funding requirements associated with our international
expansion in 2007, we began to manage our business geographically in two
operating segments, with our primary areas of measurement and decision-making
being the U.S. and International, which includes the U.K. and
France.
Since our
founding in 1987, CoStar’s strategy has been to provide commercial real estate
professionals with critical knowledge to explore and complete transactions, by
offering the most comprehensive, timely and standardized information on U.S.
commercial real estate. As a result of our January 2003 acquisition of Focus
Information Limited, June 2004 acquisition of Scottish Property Network,
December 2006 acquisition of Grecam S.A.S., and February 2007 acquisition of
Property Investment Exchange Limited, we have extended our offering of
comprehensive commercial real estate information to include London and other
parts of the U.K. and parts of France. Information about CoStar’s
revenues from, and long-lived assets located in, foreign countries is included
in Notes 2 and 10 to our consolidated financial statements. CoStar’s revenues,
net income, assets and liabilities, broken out by segment are set forth in Note
10 to our consolidated financial statements. Information about risks
attendant to our foreign operations is included in “Item 7A. Quantitative and
Qualitative Disclosures about Market Risk.”
We
deliver our content to our U.S. customers via an integrated suite of online
service offerings that includes information about space available for lease,
comparable sales information, tenant information, information about properties
for sale, property information for clients’ websites, information about industry
professionals and their business relationships, analytic information, data
integration, property marketing and industry news. We have created
and are continually improving a standardized information platform where the
commercial real estate industry and related businesses can continuously interact
and easily facilitate transactions due to the efficient exchange of accurate
information supplied by CoStar.
We have a
number of assets that provide a unique foundation for our standardized platform,
including the most comprehensive proprietary database in the industry; the
largest research department in the industry; proprietary data collection,
information management and quality control systems; a large in-house product
development team; a broad suite of web-based information services; and a large
base of clients. Our database has been developed and enhanced for more than 20
years by a research department that makes thousands of daily database updates.
In addition to our internal efforts to grow the database, we have obtained and
assimilated over 51 proprietary databases.
CoStar
intends to continue to grow its standardized platform of commercial real estate
information. In 2004, CoStar began research for a 21-market U.S.
expansion effort. In the first quarter of 2006, CoStar had
successfully launched service in each of those 21 markets. In
addition, following our acquisition of National Research Bureau in January 2005,
we launched various research initiatives as part of our expansion into real
estate information for retail properties. In July 2006, we announced
our intention to commence actively researching commercial properties in
approximately 81 new Core Based Statistical Areas (“CBSAs”) across the U.S. in
an effort to expand the geographical coverage of our service offerings,
including our new retail service. In the fourth quarter of 2007, we
released our CoStar Property Professional service in the 81 new CBSAs across the
U.S.
CoStar
also intends to continue to grow and expand the coverage of its service
offerings within the U.K. In December 2006, CoStar’s U.K. Subsidiary,
CoStar Limited, acquired Grecam S.A.S., a provider of commercial property
information and market-level surveys, studies and consulting services, located
in Paris, France. In February 2007, CoStar Limited also acquired
Property Investment Exchange Limited, a provider of commercial property
information and operator of an online investment property exchange located in
London, England. CoStar intends to integrate its U.K. and French
operations more fully with its U.S. operations and eventually to introduce a
consistent international platform of service offerings.
Our
subscription-based information services, consisting primarily of CoStar Property
Professional, CoStar Tenant, CoStar COMPS Professional and FOCUS services,
currently generate approximately 95% of our total revenues. Our contracts for
our subscription-based information services typically have a minimum term of one
year and renew automatically. Upon renewal, many of the subscription contract
rates may increase in accordance with contract provisions or as a result of
contract renegotiations. To encourage clients to use our services regularly, we
generally charge a fixed monthly amount for our subscription-based services
rather than fees based on actual system usage. Contract rates are based on the
number of sites, number of users, organization size, the client’s business
focus, geography and the number of services to which a client subscribes. Our
subscription clients generally pay contract fees on a monthly basis, but in some
cases may pay us on a quarterly or annual basis.
Industry
Overview
The
market for commercial real estate information is vast based on the variety,
volume and value of transactions related to commercial real estate. Each
transaction has multiple participants and multiple information requirements, and
in order to facilitate transactions, industry participants must have extensive,
accurate and current information. Members of the commercial real estate and
related business community require daily access to current data such as space
availability, rental rates, vacancy rates, tenant movements, sales comparables,
supply, new construction, absorption rates and other important market
developments to carry out their businesses effectively. There is a strong need
for an efficient marketplace, where commercial real estate professionals can
exchange information, evaluate opportunities using standardized data and
interact with each other on a continuous basis.
A large
number of parties involved in the commercial real estate and related business
community make use of the services we provide in order to obtain information
they need to conduct their businesses, including:
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Sales
and leasing brokers
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Government
agencies’ staff members
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Property
owners
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Mortgage-backed
security issuers
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Property
managers
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Appraisers
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Design
and construction professionals
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Pension
fund managers
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Real
estate developers
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Reporters
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Real
estate investment trust managers
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Tenant
vendors
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Investment
bankers
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Building
services vendors
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Commercial
bankers
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Communications
providers
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Mortgage
bankers
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Insurance
companies’ managers
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Mortgage
brokers
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Institutional
advisors
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Retailers
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Investors
and asset managers
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The
commercial real estate and related business community generally has operated in
an inefficient marketplace because of the fragmented approach to gathering and
exchanging information within the marketplace. Various organizations, including
hundreds of brokerage firms, directory publishers and local research companies,
collect data on specific markets and develop software to analyze the information
they have independently gathered. This highly fragmented methodology has
resulted in duplication of effort in the collection and analysis of information,
excessive internal cost and the creation of non-standardized data containing
varying degrees of accuracy and comprehensiveness, resulting in a formidable
information gap.
The
creation of a standardized information platform for commercial real estate
requires an infrastructure including a standardized database, accurate and
comprehensive research capabilities, easy to use technology and intensive
participant interaction. By combining its extensive database, 1,041 researchers
and outside contractors, technological expertise and broad customer base, CoStar
believes that it has created such a platform.
CoStar’s Comprehensive
Database
CoStar
has spent more than 20 years building and acquiring a database of commercial
real estate information, which includes information on leasing, sales,
comparable sales, tenants, and demand statistics, as well as digital
images.
As of
February 28, 2008, our database of real estate information covered the U.S., as
well as London, England and other parts of the U.K. and parts of France, and
contained:
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More
than 67.2 billion square feet (gross building area) and more than 53.9
billion square feet (rentable building area) of U.S. commercial real
estate;
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More
than 940,000 sale and lease
listings;
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Over
2.7 million total properties;
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Over 7.0
billion square feet of sale and lease
listings;
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Over
5.5 million tenants;
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More
than 1.2 million sales transactions valued in the aggregate at over $2.8
trillion; and
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Approximately
5.6 million digital attachments, including building
photographs, aerial photographs, plat maps and floor
plans.
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This
highly complex database is comprised of hundreds of data fields, tracking such
categories as:
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Location
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Mortgage
and deed information
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Site
and zoning information
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For-sale
information
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Building
characteristics
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Income
and expense histories
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Space
availability
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Tenant
names
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Tax
assessments
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Lease
expirations
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Ownership
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Contact
information
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Sales
and lease comparables
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Historical
trends
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Space
requirements
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Demographic
information
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Number
of retail stores
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Retail
sales per square foot
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CoStar
Research
We have
developed a sophisticated data collection organization utilizing a multi-faceted
research process. In 2007, our full time researchers and contractors drove
millions of miles, conducted hundreds of thousands of on-site building
inspections, and conducted millions interviews of brokers, owners and
tenants.
Research Department.
As of
January 31, 2008, we employed 869 commercial real estate research professionals
and 172 individuals acting as outside contractors performing research. Our
research professionals undergo an extensive training program so that we can
maintain consistent research methods and processes throughout our research
department. Our researchers collect and analyze commercial real
estate information through millions of phone calls, e-mails, internet updates
and faxes each year, in addition to field inspections, public records review,
news monitoring and direct mail. Each researcher is responsible for maintaining
the accuracy and reliability of database information. As part of their update
process, researchers develop cooperative relationships with industry
professionals that allow them to gather useful information. Because of the
importance commercial real estate professionals place on our data and our
prominent position in the industry, many of these professionals routinely take
the initiative and proactively report available space and transactions to our
researchers. In 2007, we continued outsourcing a limited number of
research related projects to outside firms to supplement the work of our
research employees.
CoStar
has an extensive field research effort that includes physical inspection of
properties in order to research new markets, find additional inventory,
photograph properties and verify existing information. CoStar’s research efforts
have traditionally focused on office and industrial
properties. Following our acquisition of National Research Bureau in
January 2005, we launched a major expansion effort into real estate information
for retail properties. In July 2006, we announced our intention to
commence actively researching commercial properties in approximately 81 new
CBSAs across the U.S. in an effort to expand the geographical coverage of our
service offerings, including our new retail service. In
the fourth quarter of 2007, we released the CoStar Property Professional
service in the 81 new CBSAs across the U.S.
As part
of CoStar’s research efforts, CoStar utilizes 152 high-tech field research
vehicles in 43 states and the U.K. Of these vehicles, 101 are
custom-designed energy efficient hybrid cars that are equipped with computers,
proprietary Global Positioning System tracking software, high resolution digital
cameras and handheld laser instruments to help precisely measure buildings,
geo-code them and position them on digital maps. Some of our
researchers also use custom-designed trucks with the same equipment as well as
pneumatic masts that extend up to an elevation of twenty-five feet to allow for
unobstructed building photographs from “birds-eye” views. Each CoStar
vehicle uses wireless technology to track and transmit field data. A typical
site inspection consists of photographing the building, measuring the building,
geo-coding the building, capturing “For Sale” or “For Lease” sign information,
counting parking spaces, assessing property condition and construction, and
gathering tenant information. Certain researchers canvass properties,
interviewing tenants suite by suite. In addition, many of our field researchers
are photographers who take photographs of commercial real estate properties to
add to CoStar’s database of digital images.
Data and Image Providers.
We
license a small portion of our data and images from public record providers and
third-party data sources. Licensing agreements with these entities provide for
our use of a variety of commercial real estate information, including property
ownership, tenant information, demographic information, maps and aerial
photographs, all of which enhance various CoStar services. These license
agreements generally grant us a non-exclusive license to use the data and images
in the creation and supplementation of our information services and include what
we believe are standard terms, such as a contract term ranging from two to five
years, automatic renewal of the contract and fixed periodic license fees or a
combination of fixed periodic license fees plus additional fees based upon our
usage.
Management and Quality Control
Systems.
Our research processes include automated and non-automated
controls to ensure the integrity of the data collection process. A large number
of automated data quality tests check for potential errors, including occupancy
date conflicts, available square footage greater than building area, typical
floor space greater than land area and expired leases. We also monitor changes
to critical fields of information to ensure all information is kept in
compliance with our standard definitions and methodology. Our non-automated
quality control procedures include:
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calling
our information sources on recently updated properties to re-verify
information;
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performing
periodic research audits and field checks to determine if we correctly
canvassed all buildings;
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providing
training and retraining to our research professionals to ensure accurate
data compilation; and
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compiling
measurable performance metrics for research teams and managers for
feedback on data quality.
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Finally,
one of the most important and effective quality control measures we rely on is
feedback provided by the commercial real estate professionals using our data
every day.
Proprietary
Technology
As of
January 31, 2008, CoStar had a staff of 101 product development, database and
network professionals. CoStar’s information technology professionals
focus on developing new services for our customers and delivering research
automation tools that improve the quality of our data and increase the
efficiency of our research analysts.
Our
information technology team is responsible for developing and maintaining CoStar
products including CoStar Property Professional, CoStar Property Express, CoStar
COMPS, CoStar Tenant, CoStar CMLS, CoStar Connect and for our international
products. In 2006, CoStar released a major upgrade to its CoStar
COMPS service that provides customers with over 100 improvements, including
access to for sale information, aerials and enhanced mapping. In
2007, to better support our retail customers, we added significant features to
CoStar Property including tenant proximity and demographic search capability,
mapping layers, detailed retail tenant information and
demographics. Also in 2007, CoStar began development of an
international platform, which will allow CoStar to offer CoStar Property
Professional in international countries.
Our
information technology team is responsible for developing the infrastructure
necessary to support CoStar’s business processes, our comprehensive database of
commercial real estate information and our extensive image library. The team
implements technologies and systems that introduce efficient workflows and
controls that increase the production capacity of our research teams and improve
the quality of our data. Over the years, the team has developed data
collection and quality control mechanisms that we believe are unique to the
commercial real estate industry. The team continues to develop and modify our
enterprise information management system that integrates CoStar sales, research,
field research, customer support and accounting information. We use
this system to maintain our commercial real estate research information, manage
contacts with the commercial real estate community, provide research workflow
automation and conduct daily automated quality assurance checks.
Our
information technology professionals also maintain the servers and network
components necessary to support CoStar services and research
systems. Our encrypted virtual private network provides remote
researchers and salespeople secure access to CoStar applications and network
resources. CoStar maintains a comprehensive data protection policy that provides
for use of encrypted data fields and off-site storage of all system backups,
among other protective measures. CoStar’s services are continually
monitored in an effort to ensure our customers fast and reliable
access.
Services
Our suite
of information services is branded and marketed to our customers. Our services
are derived from a database of building-specific information and offer customers
specialized tools for accessing, analyzing and using our information. Over time,
we expect to enhance our existing information services and develop additional
services that make use of our comprehensive database to meet the needs of our
existing customers as well as potential new categories of
customers.
Our
various information services are described in detail in the following paragraphs
as of January 31, 2008:
CoStar Property
Professional
®
CoStar
Property Professional, or “CoStar Property,” is the Company’s flagship service.
It provides subscribers a comprehensive inventory of office, industrial, retail
and multifamily properties and land in markets throughout the U.S., including
for-lease and for-sale listings, historical data, building photographs, maps and
floor plans. Commercial real estate professionals use CoStar Property to
identify available space for lease, evaluate leasing and sale opportunities,
value assets and position properties in the marketplace. Our clients also use
CoStar Property to analyze market conditions by calculating current vacancy
rates, absorption rates or average rental rates, and forecasting future trends
based on user selected variables. CoStar Property provides subscribers with
powerful map-based search capabilities as well as a user controlled, password
protected extranet (or electronic “file cabinet”) where brokers may share space
surveys and transaction-related documents online, in real time, with team
members. When used together with CoStar Connect, CoStar Property enables
subscribers to share space surveys and transaction-related documents with their
clients, accessed through their corporate website. CoStar Property, along with
all of CoStar’s other core information services, are delivered solely via the
internet.
CoStar COMPS
Professional
®
CoStar
COMPS Professional
provides comprehensive
coverage of comparable sales information in the U.S. commercial real estate
industry. It is the industry’s most comprehensive database of comparable sales
transactions and is designed for professionals who need to research property
comparables, identify market trends, expedite the appraisal process and support
property valuations. In November 2006, we launched a major upgrade to the COMPS
Professional service, which now offers subscribers many new features, including
additional fields of property information, access to support documents (e.g.,
deeds of trust) for new comparables, demographics and the ability to view
for-sale properties alongside sold properties in three formats – plotted on a
map, aerial image or in a table.
CoStar Tenant
®
CoStar Tenant is a
detailed online business-to-business prospecting and analytical tool providing
commercial real estate professionals with the most comprehensive commercial real
estate-related U.S. tenant information available. CoStar Tenant
profiles tenants
occupying space in commercial buildings across the United States and provides
updates on lease expirations -- one of the service’s key features -- as well as
occupancy levels, growth rates and numerous other facts. Delivering this
information via the internet allows users to target prospective clients quickly
through a searchable database that identifies only those tenants meeting certain
criteria.
CoStar Property Express
®
CoStar Property Express
provides access, via an annual subscription, to a “light” or scaled down version
of CoStar Property. Commercial real estate professionals use CoStar Property
Express to look up and search for-lease and for-sale listings in CoStar’s
comprehensive national database. CoStar Property Express
provides base building
information, photos, floor plans, maps and a limited number of
reports.
CoStar Listings Express
®
CoStar
Listings Express provides access via an annual subscription to a listings only
version of CoStar Property Express. Commercial real estate
professionals use CoStar Listings Express to look up and search for-lease and
for-sale listings in CoStar’s comprehensive national database. CoStar
Listings Express provides base building information, photos, floor plans, maps
and a limited number of reports on only properties that are either for-lease or
for-sale. CoStar Listings Express does not provide information on
fully leased properties as does CoStar Property Express.
CoStar COMPS Express
®
CoStar
COMPS Express provides users with immediate, subscription free access with
payment by a credit card to the CoStar COMPS Professional system on a
report-by-report basis. Subscribers also use this on-demand service to research
comparable sales information outside of their subscription markets.
FOCUS™
CoStar’s
U.K. subsidiary, CoStar UK
Limited (formerly FOCUS Information Limited), offers several services, the
primary of which is FOCUS. FOCUS is a digital online service offering
information on the U.K. commercial real estate market. This service seamlessly
links data on individual properties and companies across the U.K., including
comparable sales, available space, requirements, tenants, lease deals, planning
information, socio-economics and demographics, credit ratings, photos and
maps.
SPN™
CoStar’s
U.K. subsidiary, Scottish Property Network Limited, offers users online access
to a comprehensive database of information for properties located in Scotland,
including available space, comparable sales and lease deals.
CoStar Connect
®
CoStar Connect allows
commercial real estate firms to license CoStar’s technology and information to
market their U.S. property listings on their corporate websites. Customers
enhance the quality and depth of their listing information through access to
CoStar’s database of content and digital images. The service automatically
updates via the CoStar Property database and manages customers’ online property
information, providing comprehensive listings coverage and significantly
reducing the expense of building and maintaining their websites’ content and
functionality.
CoStar Commercial MLS
®
CoStar Commercial MLS
is the industry’s most comprehensive collection of researched for-sale
listings. CoStar Commercial MLS draws upon CoStar’s large database of
digital images and includes office, industrial, multifamily and retail
properties, as well as shopping centers and raw land. CoStar
Commercial MLS represents an efficient means for sellers to market their
properties to a large audience and for buyers to easily identify target
properties.
CoStar Advertising
®
CoStar Advertising
offers property owners a highly targeted and cost effective way to market a
space for lease or a property for sale directly to the individuals looking for
that type of space through interactive advertising. Our advertising model is
based on varying levels of exposure, enabling the advertiser to target as
narrowly or broadly as its budget permits. With the CoStar Advertising program,
when the advertiser’s listings appear in a results set, they receive priority
positioning and are enhanced to stand out. The advertiser can also purchase
exposure in additional submarkets, or the entire market area so that this ad
will appear even when this listing would not be returned in a results
set.
CoStar Professional
Directory
®
CoStar
Professional Directory, a service available exclusively to CoStar Property
Professional subscribers, provides detailed contact information for
approximately 900,000 commercial real estate professionals, including specific
information about an individual’s current and prior activities such as completed
transactions, current landlord representation assignments, sublet listings,
major tenants and owners represented and local and national
affiliations. Commercial real estate brokers can input their
biographical information and credentials and upload their photo to create
personal profiles. Subscribers use CoStar Professional Directory to
network with their peers, identify and evaluate potential business partners, and
maintain accurate mailing lists of other industry professionals for their direct
mail marketing efforts
.
CoStar Market
Report™
The CoStar Market Report provides in-depth
current and historical analytical information covering office, industrial and
retail properties across the U.S. Published quarterly, each market
report includes details such as absorption rates, vacancy rates, rental rates,
average sales prices, capitalization rates, existing inventory and current
construction activity. This data is presented using standard definitions and
calculations developed by CoStar, and offers real estate professionals critical
and unbiased information necessary to make intelligent commercial real estate
decisions. CoStar Market Reports are available to CoStar Property Professional
subscribers at no additional charge, and are available for purchase by
non-subscribers.
Metropolis™
The
Metropolis service is a single interface that combines commercial real estate
data from multiple information providers into a comprehensive resource. The
Metropolis service allows a user to input a property address and then view
detailed information on that property from multiple information providers,
including CoStar services. This technology offers commercial real estate
professionals a simple and convenient solution for integrating a wealth of
third-party information and proprietary data, and is currently available for the
Southern California markets.
Propex™
Propex
gives users access to the commercial property investment market. It is used by
U.K. investment agencies and professional investors and is a secure online
exchange through which investment deals may be introduced. It is a primary
channel for the distribution of live transaction data and property research data
in the U.K. investment market. Propex also provides private investors
with a gateway into the commercial property investment market. It is a
free-access listing website, which provides details of commercial property
investments. It is used by U.K. agencies to sell investments suitable for the
private investor.
Shopproperty.co.uk™
Shopproperty
is a listing database of available retail units across the U.K. on a free-access
website. Shopproperty.co.uk is the only specialist listing website
with full licensed Goad street-trader plans.
Grecam™
Our
French subsidiary, Grecam S.A.S., provides commercial information throughout the
Paris region through its Observatoire Immobilier D’ Entreprise (“OIE”) service
offering. The OIE service provides commercial property availability
and transaction information to its subscribers through both an online service
and market reports.
Clients
We draw
clients from across the commercial real estate and related business community.
Commercial real estate brokers have traditionally formed the largest portion of
CoStar clients, however, we also provide services to owners, landlords,
financial institutions, retailers, vendors, appraisers, investment banks and
other parties involved in commercial real estate. The following chart lists U.S.
and U.K. clients that are well known or have the highest annual subscription
fees in each of the various categories, each as of January 31,
2008.
|
Brokers
|
Lenders,
Investment Bankers
|
Institutional Advisors, Asset
Managers
|
||
|
CB
Richard Ellis
|
Capmark
— U.K.
|
BlackRock
|
||
|
CB
Richard Ellis — U.K.
|
Deutsche
Bank
|
Prudential
|
||
|
Colliers
|
Wells
Fargo
|
Prudential
— U.K.
|
||
|
Colliers
Conrad Ritblat Erdman — U.K.
|
Washington
Mutual
|
Metropolitan
Life
|
||
|
Cushman
& Wakefield
|
Wachovia
Corporation
|
ING
Clarion Partners
|
||
|
Cushman
& Wakefield — U.K.
|
Merrill
Lynch
|
Bear
Stearns & Co., Inc.
|
||
|
Weichert
Commercial Brokerage
|
Citibank
|
USAA
Real Estate Company
|
||
|
Jones
Lang LaSalle
|
AEGON
USA Realty Advisors, Inc.
|
North
Marq Capital
|
||
|
Jones
Lang LaSalle — U.K.
|
Capmark
Financial Group, Inc.
|
Morley
— U.K.
|
||
|
Grubb
& Ellis
|
East
West Bank
|
AEW
Capital Management LP
|
||
|
Gerald
Eve — U.K.
|
Q10
Bonneville Mortgage Company
|
Progressive
Insurance
|
||
|
Drivers
Jonas — U.K.
|
Key
Bank
|
Duke
Realty Corporation
|
||
|
Lambert
Smith Hampton — U.K.
|
Realpoint,
LLC
|
|||
|
BRE
Commercial, LLC
|
Commerce
Bank
|
|||
|
Marcus
& Millichap
|
||||
|
The
Staubach Company
|
Owners and
Developers
|
Appraisers,
Accountants
|
||
|
Newmark
& Company Real Estate
|
Hines
|
Integra
|
||
|
CRESA
Partners
|
LNR
Property Corp
|
Deloitte
and Touche
|
||
|
Studley
|
Shorenstein
Properties
|
Deloitte
and Touche — U.K.
|
||
|
Coldwell
Banker Commercial NRT
|
Mack
- Cali
|
Marvin
F. Poer
|
||
|
UGL
Equis
|
Manulife
Financial
|
KPMG
|
||
|
GVA
Williams
|
Industrial
Developments International
|
GE
Capital
|
||
|
GVA
Advantis
|
Land
Securities — U.K.
|
PGP
Valuation
|
||
|
Binswanger
|
PricewaterhouseCoopers
|
|||
|
Re/Max
|
Thomson
Tax & Accounting
|
|||
|
Carter
|
||||
|
USI
Real Estate Brokerage Services
|
REITS
|
Government
Agencies
|
||
|
DAUM
Commercial Real Estate
|
Brandywine
Realty Trust
|
U.S.
General Services Administration
|
||
|
Services
|
Prologis
|
County
of Los Angeles
|
||
|
KTR
Valuation & Consulting Services
|
Brookfield
Properties
|
Internal
Revenue Service
|
||
|
U.S.
Equities Realty
|
Boston
Properties
|
City
of Chicago
|
||
|
Sperry
Van Ness
|
Liberty
Property Trust
|
Cook
County Assessor’s Office
|
||
|
HFF
|
U.S.
Department of Housing and Urban
|
|||
|
Mohr
Partners
|
Development
|
|||
|
Charles
Dunn Company, Inc.
|
Corporation
of London — U.K.
|
|||
|
GVA
Grimley — U.K.
|
Scottish
Enterprise – U.K.
|
|||
|
King
Sturge — U.K.
|
||||
|
Knight
Frank — U.K.
|
Property Managers
|
Vendors
|
||
|
DTZ
— U.K.
|
Transwestern
Commercial Services
|
Turner
Construction Company
|
||
|
Savillis
Commercial — U.K.
|
Lincoln
Property Company
|
Kastle
Systems
|
||
|
Artisreal
— U.K.
|
PM
Realty Group
|
Comcast
Cable Communications
|
||
|
Navisys
Group
|
ADT
Security
|
|||
|
Osprey
Management Company
|
MWB
— U.K.
|
|||
|
Leggat
McCall Properties
|
Regus
— U.K.
|
|||
|
Clear
Channel Outdoor
|
||||
|
Cox
Communications, Inc.
|
||||
|
Retailers
|
||||
|
DSW
|
PetSmart,
Inc.
|
Town
Fair Tire
|
||
|
Quiznos
Master, LLC
|
Hibbett
Sporting Goods, Inc.
|
7-Eleven
|
||
|
Men’s
Wearhouse
|
Nationwide
Insurance
|
United
Rentals, Inc.
|
||
|
Dippin'
Dots Franchising, Inc.
|
Pathmark
|
For the
years ended December 31, 2005, 2006 and 2007, no single client accounted for
more than 5% of our revenues.
Sales
and Marketing
As of
January 31, 2008, we had 265 sales, marketing and customer support employees,
with the majority of our direct sales force located in field sales offices. Our
sales teams are primarily located in 24 field sales offices throughout the U.S.
and in London, England; Manchester, England; Glasgow, Scotland and Paris,
France. Our inside sales team is located in our Maryland offices.
This team prospects for new clients and performs service demonstrations
exclusively by telephone and over the internet to support the direct sales
force.
Our local
offices typically serve as the platform for our in-market sales, customer
support and field research operations for their respective regions. The sales
force is responsible for selling to new prospects, training new and existing
clients, providing ongoing customer support, renewing existing client contracts
and identifying cross-selling opportunities. In addition, the sales force has
primary front line responsibility for customer care.
Our sales
strategy is to aggressively attract new clients, while providing ongoing
incentives for existing clients to subscribe to additional services. We place a
premium on training new and existing client personnel on the use of our services
so as to promote maximum client utilization and satisfaction with our services.
Our strategy also involves entering into multi-year, multi-market license
agreements with our larger clients.
We seek
to make our services essential to our clients’ businesses. To encourage clients
to use our services regularly, we generally charge a fixed monthly amount for
our subscription-based services rather than fees based on actual system usage.
Contract rates are based on the number of sites, number of users, organization
size, the client’s business focus, geography and the number of services to which
a client subscribes. Our subscription clients generally pay contract fees on a
monthly basis, but in some cases may pay us on a quarterly or annual
basis. In addition, through CoStar Property Express and CoStar COMPS
Express, clients can access our database of commercial real estate information
without a subscription on a pay per use basis.
Our
customer service and support staff is charged with ensuring high client
satisfaction by providing ongoing customer support.
Our
primary marketing methods include: service demonstrations; face to face
networking; web-based marketing; direct marketing; communication via our
corporate website and news services; participation in trade show and industry
events; print advertising in trade magazines and local business journals; client
referrals; and CoStar Advisor™, the Company’s newsletter, which is distributed
to our clients and prospects. Web-based marketing and direct marketing are
the most cost-effective means for us to find prospective clients. Our web-based
marketing efforts include paid advertising with major search engines and
commercial real estate news sites and our direct marketing efforts include
direct mail, email and telemarketing, and make extensive use of our unique,
proprietary database. Once we have identified a prospective client, our most
effective sales method is a service demonstration. We use various forms of
advertising to build brand identity and reinforce the value and benefits of our
services. We also sponsor and attend local association activities and events,
and attend and/or exhibit at industry trade shows and conferences to reinforce
our relationships with our core user groups, including industry-leading events
for commercial brokers and retail and financial services
institutions.
Competition
The
market for information services generally is competitive and rapidly changing.
In the commercial real estate industry, the principal competitive factors for
commercial real estate information services and providers are:
|
|
•
|
quality
and depth of the underlying
databases;
|
|
|
•
|
ease
of use, flexibility, and functionality of the
software;
|
|
|
•
|
timeliness
of the data;
|
|
|
•
|
breadth
of geographic coverage and services
offered;
|
|
|
•
|
client
service and support;
|
|
|
•
|
perception
that the service offered is the industry
standard;
|
|
|
•
|
price;
|
|
|
•
|
effectiveness
of marketing and sales efforts;
|
|
|
•
|
proprietary
nature of methodologies, databases and technical
resources;
|
|
|
•
|
vendor
reputation;
|
|
|
•
|
brand
loyalty among customers; and
|
|
|
•
|
capital
resources.
|
We
compete directly and indirectly for customers with the following categories of
companies:
|
|
•
|
online
services or websites targeted to commercial real estate brokers, buyers
and sellers of commercial real estate properties, insurance companies,
mortgage brokers and lenders, such as LoopNet, Inc., Reed Business
Information Limited, Dorey First CLS, officespace.com, MrOfficeSpace.com
and TenantWise, Inc;
|
|
|
•
|
publishers
and distributors of information services, including regional providers and
national print publications, such as Black’s Guide, Property and Portfolio
Research, Marshall & Swift, Yale Robbins, Inc., Reis, Inc., Real
Capital Analytics, Dorey Publishing and Information Services and Smith
Guide;
|
|
|
•
|
locally
controlled real estate boards, exchanges or associations sponsoring
property listing services and the companies with whom they partner, such
as Xceligent, Catalyst, the Commercial Association of Realtors Data
Services and the Association of Industrial
Realtors;
|
|
|
•
|
in-house
research departments operated by commercial real estate brokers;
and
|
|
|
•
|
public
record providers.
|
As the
commercial real estate information marketplace develops, additional competitors
(including companies which could have greater access to data, financial, product
development, technical or marketing resources than we do) may enter the market
and competition may intensify. While we believe that we have successfully
differentiated ourselves from existing competitors, competition could materially
harm our business.
Proprietary
Rights
To
protect our proprietary rights in our methodologies, database, software,
trademarks and other intellectual property, we depend upon a combination
of:
|
|
•
|
trade
secret, copyright, trademark, database protection and other
laws;
|
|
|
•
|
nondisclosure,
noncompetition and other contractual provisions with employees and
consultants;
|
|
|
•
|
license
agreements with customers;
|
|
|
•
|
patent
protection; and
|
|
|
•
|
technical
measures.
|
We seek
to protect our software’s source code, our database and our photography as trade
secrets and under copyright law. Although copyright registration is not a
prerequisite for copyright protection, we have filed for copyright registration
for many of our databases, photographs, software and other materials. Under
current U.S. copyright law, the arrangement and selection of data may be
protected, but the actual data itself may not be. In addition, with respect to
our U.K. databases, certain database protection laws provide additional
protections of these databases. We license our services under license agreements
that grant our clients non-exclusive, non-transferable licenses. These
agreements restrict the disclosure and use of our information and prohibit the
unauthorized reproduction or transfer of the information services we
license.
We also
attempt to protect the secrecy of our proprietary database, our trade secrets
and our proprietary information through confidentiality and noncompetition
agreements with our employees and consultants. Our services also include
technical measures designed to discourage and detect unauthorized copying of our
intellectual property.
We have
filed trademark applications to register trademarks for a variety of names for
CoStar services and other marks, and have obtained registered trademarks for a
variety of our marks, including “CoStar”, “COMPS”, “CoStar Property”, “CoStar
Tenant” and “CoStar Group”. Depending upon the jurisdiction, trademarks are
generally valid as long as they are in use and/or their registrations are
properly maintained and they have not been found to become
generic. We consider our trademarks in the aggregate to constitute a
valuable asset. In addition, we have filed several patent
applications covering certain of our methodologies and software and currently
have one patent in the U.K. which expires in 2021 covering, among other things,
certain of our field research methodologies, and three patents in the U.S. which
expire in 2020, 2021 and 2022, covering, among other things, critical elements
of CoStar’s proprietary field research technology and mapping
tools. We regard the rights under our patents as valuable to our
business but do not believe that our business is materially dependent on any
single patent.
Employees
As of
January 31, 2008, we employed 1,335 employees. None of our employees is
represented by a labor union. We have experienced no work stoppages. We believe
that our employee relations are excellent.
Available
Information
Our
investor relations internet website is http://www.costar.com/corporate/investor.
The reports we file with or furnish to the Securities and Exchange Commission,
including our annual report, quarterly reports and current reports, are
available free of charge on our internet website as soon as reasonably
practicable after we electronically file such material with, or furnish it to,
the Securities and Exchange Commission. You may review and copy any of the
information we file with the Securities and Exchange Commission at the
Commission's Public Reference Room at 450 Fifth Street, NW, Washington, DC
20549. You may obtain information regarding the operation of the Public
Reference Room by calling the SEC at 1-800-SEC-0330. The Securities
and Exchange Commission maintains an internet site that contains reports, proxy
and information statements, and other information regarding issuers that file
electronically with the Commission at http://www.sec.gov.
|
Item
1A.
|
Risk
Factors
|
Cautionary
Statement Concerning Forward-Looking Statements
We have
made forward-looking statements in this report and make forward-looking
statements in our press releases and conference calls that are subject to risks
and uncertainties. Forward-looking statements include information that is not
purely historic fact and include, without limitation, statements concerning our
financial outlook for 2008 and beyond; our possible or assumed future results of
operations generally; and other statements and information regarding assumptions
about our revenues, EBITDA, fully diluted net income, taxable income, cash flow
from operating activities, available cash, operating costs, amortization
expense, intangible asset recovery, net income per share, diluted net income per
share, weighted-average outstanding shares, capital and other expenditures,
effective tax rate, equity compensation charges, future taxable income, purchase
amortization, financing plans, geographic expansion, capital structure,
contractual obligations, legal proceedings and claims, our database, database
growth, services and facilities, employee relations; future economic
performance; management’s plans, goals and objectives for future operations; and
growth and markets for our stock. Sections of this report which contain
forward-looking statements include “Business,” “Risk Factors,” “Properties,”
“Legal Proceedings,” “Management’s Discussion and Analysis of Financial
Condition and Results of Operations,” “Quantitative and Qualitative Disclosures
About Market Risk” and the Financial Statements and related Notes.
Our
forward-looking statements are also identified by words such as “believes,”
“expects,” “thinks,” “anticipates,” “intends,” “estimates” or similar
expressions. You should understand that these forward-looking statements are
necessary estimates reflecting our judgment, not guarantees of future
performance. They are subject to a number of assumptions, risks and
uncertainties that could cause actual results to differ materially from those
expressed or implied in the forward-looking statements. The following important
factors, in addition to those discussed in “Risk Factors,” and other unforeseen
events or circumstances, could affect our future results and could cause those
results or other outcomes to differ materially from those expressed or implied
in our forward-looking statements: general economic conditions; customer
retention; competition; our ability to identify and integrate acquisitions; our
ability to control costs; litigation; our ability to continue to expand
successfully; our ability to
13
effectively
penetrate the market for retail real estate information and gain acceptance in
that market; changes or consolidations within the commercial real estate
industry; release of new and upgraded services by us or our competitors; data
quality; development of our sales force; employee retention; technical problems
with our services; managerial execution; changes in relationships with real
estate brokers and other strategic partners; foreign currency fluctuations;
legal and regulatory issues; changes in accounting policies or practices; and
successful adoption of and training on our services.
Accordingly,
you should not place undue reliance on forward-looking statements, which speak
only as of the date of this report. All subsequent written and oral
forward-looking statements attributable to us or any person acting on our behalf
are expressly qualified in their entirety by the cautionary statements contained
or referred to in this section. We do not undertake any obligation to update any
such statements or release publicly any revisions to these forward-looking
statements to reflect events or circumstances after the date of this report or
to reflect the occurrence of unanticipated events.
Risk
Factors
A downturn or consolidation in the
commercial real estate industry may decrease customer demand for our
services
. The continuing decline in the commercial real estate industry’s
leasing activity, rental rates and absorption rates and the recent downturn in
the commercial real estate market may affect our ability to generate revenues
and may lead to more cancellations by our current or future customers, both of
which could cause our revenues or our revenue growth rate to decline and reduce
our profitability. A depressed commercial real estate market has a negative
impact on our core customer base, which could decrease demand for our
information services. Also, companies in this industry are consolidating, often
in order to reduce expenses. Consolidation may lead to more cancellations of our
information services by our customers, reduce the number of our existing
clients, reduce the size of our target market or increase our clients’
bargaining power, all of which could cause our revenues or our revenue growth
rate to decline and reduce our profitability.
Our revenues and financial position
will be adversely affected if we are not able to attract and retain
clients
. Our success and revenues depend on attracting and retaining
subscribers to our information services. Our subscription-based information
services generate the largest portion of our revenues. However, we may be unable
to attract new clients in expansion markets, and our existing clients may decide
not to add, not to renew or to cancel subscription services. In addition, in
order to increase our revenue, we must continue to attract new customers,
continue to keep our cancellation rate low and continue to sell new services to
our existing customers. We may not be able to continue to grow our customer
base, keep the cancellation rate for customers and services low or sell new
services to existing customers as a result of several factors, including without
limitation: a decision that customers have no need for our services; a decision
to use alternative services; customers’ and potential customers’ pricing and
budgetary constraints; consolidation in the real estate and/or financial
services industries; data quality; technical problems; or economic or
competitive pressures. If clients decide to cancel services or not to renew
their subscription agreements, and we do not sell new services to our existing
clients or attract new clients, then our renewal rate, revenues and our revenue
growth rate may decline.
General economic conditions could
increase our expenses and reduce our revenues
. Our business and the
commercial real estate industry are particularly affected by negative trends in
the general economy. The success of our business depends on a number of factors
relating to general global, national, regional and local economic conditions,
including perceived and actual economic conditions, inflation, interest rates,
taxation policies, availability of credit, employment levels, and wage and
salary levels. Negative general economic conditions could adversely affect our
business by reducing our revenues and profitability. Further, any
significant terrorist attack is likely to have a dampening effect on the economy
in general, which could negatively affect our financial performance and our
stock price. In addition, a significant increase in inflation could increase our
expenses more rapidly than expected, the effect of which may not be offset by
corresponding increases in revenue. If clients choose to cancel our information
services as a result of economic conditions, and we do not acquire new clients
or sell new services to our existing clients, our revenues may decline and our
financial position would be adversely affected.
If we are unable to hire qualified
persons for, or retain and continue to develop, our sales force, or if our sales
force is unproductive, our revenues could be adversely affected
. In order
to support revenue growth, we need to continue to develop, train and retain our
sales force. Our ability to build and develop a strong sales force may be
affected by a number of factors, including: our ability to attract, integrate
and motivate sales personnel; our ability to effectively train our sales force;
the ability of our sales force to sell an increased number of services; our
ability to manage effectively an outbound telesales group; the length of time it
takes new sales personnel to become productive; the competition we face from
other companies in hiring and retaining sales personnel; and our ability to
effectively manage a multi-location sales organization. If we are unable to hire
qualified sales personnel and develop and retain the members of our sales force,
including sales force management, or if our sales force is unproductive, our
revenues or growth rate could decline and our expenses could
increase.
Litigation or government
investigations in which we become involved may significantly increase our
expenses and adversely affect our stock price
. Currently and from time to
time, we are a party to various lawsuits. Any lawsuits, threatened lawsuits or
government investigations in which we are involved could cost us a significant
amount of time and money to defend, could result in negative publicity, and
could adversely affect our stock price. In addition, if any claims are
determined against us or if a settlement requires us to pay a large monetary
amount, our profitability could be significantly reduced and our financial
position could be adversely affected. We cannot assure you that we will have any
or sufficient insurance to cover any litigation claims.
If our operating costs are higher
than we expect, our profitability may be reduced
. Many of our expenses,
particularly personnel costs and occupancy costs, are relatively fixed. As a
result, we may not be able to adjust spending quickly enough to offset any
unexpected revenue shortfall or increase in expenses. Additionally, we may
experience higher than expected operating costs, including increased personnel
costs, occupancy costs, selling and marketing costs, investments in geographic
expansion, acquisition costs, communications costs, travel costs, software
development costs, professional fees and other costs. If operating costs exceed
our expectations or cannot be adjusted accordingly, our profitability may be
reduced and our results of operations and financial position will be adversely
affected.
If we are unable to enforce or
defend our ownership and use of intellectual property, our business, competitive
position and operating results could be harmed
. The success of our
business depends in large part on the intellectual property involved in our
methodologies, database, services and software. We rely on a combination of
trade secret, patent, copyright and other laws, nondisclosure and noncompetition
provisions, license agreements and other contractual provisions and technical
measures to protect our intellectual property rights. However, current law may
not provide for adequate protection of our databases and the actual data. In
addition, legal standards relating to the validity, enforceability and scope of
protection of proprietary rights in internet related businesses are uncertain
and evolving, and we cannot assure you of the future viability or value of any
of our proprietary rights. Our business could be significantly harmed if we are
not able to protect our content and our other intellectual property. The same
would be true if a court found that our services infringe other persons’
intellectual property rights. Any intellectual property lawsuits or threatened
lawsuits in which we are involved, either as a plaintiff or as a defendant,
could cost us a significant amount of time and money and distract management’s
attention from operating our business. In addition, if we do not prevail on any
intellectual property claims, this could result in a change to our methodology
or information services and could reduce our profitability.
Our current or future geographic
expansion plans may not result in increased revenues, which may negatively
impact our business, results of operations and financial position
.
Expanding into new markets and investing resources towards increasing the depth
of our coverage within existing markets imposes additional burdens on our
research, systems development, sales, marketing and general managerial
resources. During 2007, we expanded geographic coverage in U.S. and U.K. and
increased the depth of our coverage. During 2008, we plan to increase
the depth of our coverage in the U.S. and U.K. with our current
resources. If we are unable to manage our expansion efforts
effectively, if our expansion efforts take longer than planned or if our costs
for these efforts exceed our expectations, our financial position could be
adversely affected. In addition, if we incur significant costs to improve data
quality within existing markets, or are not successful in marketing and selling
our services in these markets or in new markets, our expansion may have a
material adverse effect on our financial position by increasing our expenses
without increasing our revenues, adversely affecting our
profitability
Our continuing expansion into the
retail real estate sector may not be completed successfully or may not result in
increased revenues, which may negatively impact our business, results of
operations and financial position
. Expanding into the retail real estate
sector imposes additional burdens on our research, systems development, sales,
marketing and general managerial resources. During the next year, we expect to
continue to expand the number of
15
retail
properties contained within our database. If we are unable to manage this
expansion effectively, if this expansion effort takes longer than planned or if
our costs for this effort exceed our expectations, our financial position could
be adversely affected. In addition, if we incur significant costs to expand our
retail sector services and we are not successful in marketing and selling these
expanded services, or customers fail to accept these new services, our expansion
may have a material adverse effect on our financial position by increasing our
expenses without increasing our revenues, adversely affecting our
profitability.
International expansion may result
in new business risks, which may reduce our profitability
. Our
international operations and expansion could subject us to new business risks,
including: adapting to the differing business practices and laws in foreign
countries; difficulties in managing foreign operations; limited protection for
intellectual property rights in some countries; difficulty in collecting
accounts receivable and longer collection periods; costs of enforcing
contractual obligations; impact of recessions in economies outside the U.S.;
currency exchange rate fluctuations; and potentially adverse tax consequences.
In addition, international expansion imposes additional burdens on our executive
and administrative personnel, systems development, research and sales
departments, and general managerial resources. If we are not able to manage our
growth successfully, we may incur higher expenses and our profitability may be
reduced. Finally, the investment required for international expansion could
exceed the profit generated from such expansion, which would reduce our
profitability and adversely affect our financial position.
Competition could render our
services uncompetitive
. The market for information systems and services
in general is highly competitive and rapidly changing. Our existing competitors,
or future competitors, may have greater name recognition, larger customer bases,
better technology or data, lower prices, easier access to data, greater user
traffic or greater financial, technical or marketing resources than we have. Our
competitors may be able to undertake more effective marketing campaigns, obtain
more data, adopt more aggressive pricing policies, make more attractive offers
to potential employees, subscribers, distribution partners and content providers
or may be able to respond more quickly to new or emerging technologies or
changes in user requirements. Increased competition could result in lower
revenues and higher expenses, which would reduce our profitability.
We may not be able to successfully
introduce new or upgraded information services, which could decrease our
revenues and our profitability
. Our future business and financial success
will depend on our ability to continue to introduce new and upgraded services
into the marketplace. To be successful, we must adapt to rapid technological
changes by continually enhancing our information services. Developing new
services and upgrades to services imposes heavy burdens on our systems
department, management and researchers. This process is costly, and we cannot
assure you that we will be able to successfully develop and enhance our
services. In addition, successfully launching and selling a new service puts
pressure on our sales and marketing resources. If we are unable to develop new
or upgraded services, then our customers may choose a competitive service over
ours and our revenues may decline and our profitability may be reduced. In
addition, if we incur significant costs in developing new or upgraded services,
are not successful in marketing and selling these new services or upgrades, or
our customers fail to accept these new services, it could have a material
adverse effect on our results of operations by decreasing our revenues or our
revenue growth rate and reducing our profitability.
If we are not able to successfully
identify and integrate acquisitions, our business operations and financial
position could be adversely affected
. We have expanded our markets and
services in part through acquisitions of complementary businesses, services,
databases and technologies, and expect to continue to do so in the future. Our
strategy to acquire complementary companies or assets depends on our ability to
identify, and the availability of, suitable acquisition candidates. In addition,
acquisitions involve numerous risks, including managing the integration of
personnel and products; managing geographically remote operations, such as SPN
in Scotland, Grecam S.A.S. in France, and Property Investment Exchange Limited
in the U.K.; the diversion of management’s attention from other business
concerns; the inherent risks in entering markets and sectors in which we have
either limited or no direct experience; and the potential loss of key employees
or clients of the acquired companies. We may not successfully integrate any
acquired businesses or assets and may not achieve anticipated benefits of any
acquisition. Acquisitions could result in dilutive issuances of equity
securities, the incurrence of debt, one-time write-offs of goodwill and
substantial amortization expenses of other intangible assets.
Technical problems that affect
either our customers’ ability to access our services, or the software, internal
applications and systems underlying our services, could lead to reduced demand
for our information services, lower revenues and increased costs
. Our
business increasingly depends upon the satisfactory performance, reliability and
availability of our website, the internet and our service providers. Problems
with our website, the internet or the services provided by our local exchange
carriers or internet service providers could result in slower connections for
our customers or interfere with our customers’ access to our information
services. If we experience technical problems in distributing our services, we
could experience reduced demand for our information services. In addition, the
software, internal applications and systems underlying our services are complex
and may not be efficient or error-free. Despite careful development and testing,
we cannot be certain that we will not encounter technical problems when we
attempt to enhance our software, internal applications and systems. Any
inefficiencies, errors or technical problems with our software, internal
applications and systems could reduce the quality of our services or interfere
with our customers’ access to our information services, which could reduce the
demand for our services, lower our revenues and increase our costs.
Temporary or permanent outages of
our computers, software or telecommunications equipment could lead to reduced
demand for our information services, lower revenues and increased costs
.
Our operations depend on our ability to protect our database, computers and
software, telecommunications equipment and facilities against damage from
potential dangers such as fire, power loss, security breaches, computer viruses
and telecommunications failures. Any temporary or permanent loss of one or more
of these systems or facilities from an accident, equipment malfunction or some
other cause could harm our business. If we experience a failure that prevents us
from delivering our information services to clients, we could experience reduced
demand for our information services, lower revenues and increased
costs.
If we are not able to obtain and
maintain accurate, comprehensive or reliable data, we could experience reduced
demand for our information services
. Our success depends on our clients’
confidence in the comprehensiveness, accuracy and reliability of the data we
provide. The task of establishing and maintaining accurate and reliable data is
challenging. If our data, including the data we obtain from third parties, is
not current, accurate, comprehensive or reliable, we could experience reduced
demand for our services or legal claims by our customers, which could result in
lower revenues and higher expenses. In November 2006, we integrated internal
research processes that our U.S. researchers use to update our
database. Any inefficiencies, errors, or technical problems with this
application could reduce the quality of our data, which could result in reduced
demand for our services, lower revenues and higher costs.
Our stock price may be negatively
affected by fluctuations in our financial results
. Our operating results,
revenues and expenses may fluctuate with general economic conditions and also
for many other reasons, many of which are outside of our control, such as:
cancellations or non-renewals of our services; competition; our ability to
control expenses; loss of clients or revenues; technical problems with our
services; changes or consolidation in the real estate industry; our investments
in geographic expansion and to increase coverage in existing markets; interest
rate fluctuations; the timing and success of new service introductions and
enhancements; successful execution of our expansion plans; data quality; the
development of our sales force; managerial execution; employee retention;
foreign currency fluctuations; inflation; successful adoption of and training on
our services; litigation; acquisitions of other companies or assets; sales,
brand enhancement and marketing promotional activities; client support
activities; changes in client budgets; or our investments in other corporate
resources. In addition, changes in accounting policies or practices may affect
our level of net income. Fluctuations in our financial results, revenues and
expenses may cause the market price of our common stock to decline.
Market volatility may have an
adverse effect on our stock price
. The trading price of our common stock
has fluctuated widely in the past, and we expect that it will continue to
fluctuate in the future. The price could fluctuate widely based on numerous
factors, including: quarter-to-quarter variations in our operating results;
changes in analysts’ estimates of our earnings; announcements by us or our
competitors of technological innovations or new services; general conditions in
the commercial real estate industry; developments or disputes concerning
copyrights or proprietary rights or other legal proceedings; regulatory
developments; and economic or other factors. In addition, in recent years, the
stock market in general, and the shares of internet related and other technology
companies in particular, have experienced extreme price fluctuations. This
volatility has had a substantial effect on the market prices of securities
issued by many companies for reasons unrelated to the operating performance of
the specific companies and may have the same effect on the market price of our
common stock.
Fluctuating foreign currencies may
negatively impact our business, results of operations and financial
position
. Due to our acquisitions of CoStar UK Limited (formerly FOCUS
Information Limited), SPN, Grecam S.A.S. and Propex, a portion of our business
is denominated in the British Pound and Euro and as a result, fluctuations in
foreign currencies may have an impact on our business, results of operations and
financial position. Currencies may be affected by internal factors, and external
developments in other countries, all of which can have an adverse impact on a
country’s currency. Currently, we are not party to any hedging transactions
intended to reduce our exposure to exchange rate fluctuations. We may seek to
enter into hedging transactions in the future, but we may be unable to enter
into these transactions successfully, on acceptable terms or at all. We cannot
predict whether we will incur foreign exchange losses in the future. Further,
significant foreign exchange fluctuations resulting in a decline in the British
Pound or Euro may decrease the value of our foreign assets, as well as decrease
our revenues and earnings from our foreign subsidiaries.
Negative conditions in the global
credit markets may affect the liquidity of a portion of our short-term
investments.
Currently our short-term investments include AAA
rated auction rate securities which are primarily securities supported by
guarantees from the Federal Family Education Loan Program (FFELP) of the
U.S. Department of Education. Recent negative conditions in the global credit
markets have prevented some investors from liquidating their holdings of auction
rate securities because the amount of securities submitted for sale has exceeded
the amount of purchase orders for such securities. As of February 22, 2008,
$29.1 million of the $33.1 million of our short-term investments in auction rate
securities have failed to settle at auctions. If the credit market
does not improve, auctions for the remaining $4.0 million of our invested
amounts may fail. When an auction fails for securities in which we have
invested, we may be unable to liquidate some or all of our auction rate
securities at par, should we need or desire to access the funds invested in
those securities immediately. In the event we need or desire to immediately
access these funds, we will not be able to do so until a future auction on these
investments is successful, a buyer is found outside the auction process or an
alternative action is determined. If a buyer is found but is unwilling to
purchase the investments at par, we may incur a loss.
Changes in accounting and reporting
policies or practices may affect our financial results or presentation of
results, which may affect our stock price
. Changes in accounting and
reporting policies or practices could reduce our net income, which reductions
may be independent of changes in our operations. These reductions in reported
net income could cause our stock price to decline. For example, in the first
quarter of 2006, we adopted the provisions of SFAS 123R, which required us to
expense the value of granted stock options. We recorded $2.9 million in
compensation charges for stock options in 2006.
Our business depends on retaining
and attracting highly capable management and operating personnel
. Our
success depends in large part on our ability to retain and attract management
and operating personnel, including our President and Chief Executive Officer,
Andrew Florance, and our other officers and key employees. Our business requires
highly skilled technical, sales, management, web development, marketing and
research personnel, who are in high demand and are often subject to competing
offers. To retain and attract key personnel, we use various measures, including
employment agreements, awards under a stock incentive plan and incentive bonuses
for key executive officers. These measures may not be enough to retain and
attract the personnel we need or to offset the impact on our business of the
loss of the services of Mr. Florance or other key officers or
employees.
We may be subject to legal liability
for displaying or distributing information
. Because the content in our
database is distributed to others, we may be subject to claims for defamation,
negligence or copyright or trademark infringement or claims based on other
theories. We could also be subject to claims based upon the content that is
accessible from our website through links to other websites or information on
our website supplied by third parties. Even if these claims do not result in
liability to us, we could incur significant costs in investigating and defending
against any claims. Our potential liability for information distributed by us to
others could require us to implement measures to reduce our exposure to such
liability, which may require us to expend substantial resources and limit the
attractiveness of our information services to users.
|
Item
1B.
|
Unresolved
Staff Comments
|
None.
|
Item
2.
|
Properties
|
Our
corporate headquarters is located in Bethesda, Maryland, where we occupy
approximately 73,500 square feet of office space. Our main lease for our
Bethesda, Maryland headquarters expires on March 14, 2010. This
facility is used primarily by our U.S. segment.
In
addition to our Bethesda, Maryland facility, our research operations are
principally run out of leased spaces in San Diego, California; Columbia,
Maryland; White Marsh, Maryland; London, England; Glasgow, Scotland; and Paris,
France. Additionally, we lease office space in a variety of other metropolitan
areas, which generally house our field sales offices. These locations include,
without limitation, the following: New York; Los Angeles; Chicago; San
Francisco; Boston; Manchester, England; Orange County, California; Philadelphia;
Houston; Atlanta; Phoenix; Detroit; Pittsburgh; Iselin, New Jersey; Fort
Lauderdale; Denver; Dallas; Kansas City; Cleveland; Cincinnati; Tustin,
California; Tampa; St. Louis; and Portland, Oregon.
We
believe these facilities are suitable and appropriately support our business
needs.
|
Item
3.
|
Legal
Proceedings
|
On May 8,
2007, we filed a lawsuit in the United States District Court for the
District of Maryland against Centers & Malls LLC and two individuals.
CoStar's complaint alleged that these defendants unlawfully obtained part of
CoStar's proprietary and copyrighted database and subsequently sold this stolen
data for profit. CoStar's complaint sought equitable and monetary
relief, including but not limited to a permanent injunction barring
defendants from unlawful use of CoStar products and disgorgement to CoStar of
ill-gotten gains. Shortly after filing suit, CoStar obtained a
temporary restraining order barring Centers & Malls LLC from selling,
utilizing, or distributing its products that were pirated from CoStar's
database. On January 8, 2008, the parties entered into a Settlement
Agreement and Mutual Release, pursuant to which Centers & Malls agreed,
among other things, to permanently shut down its business operations and pay
CoStar monetary damages, in full release of all claims against Centers &
Malls and its employees. In February 2008, a Stipulation for Entry of
Judgment and Permanent Injunction was filed with the court and the complaint was
dismissed.
On
November 15, 2007, LoopNet, Inc. (“LoopNet”) filed a complaint in the Superior
Court of the State of California for the County of Los Angeles against CoStar
and certain unnamed John Does for breach of contract, unfair competition, and
violation of California Computer Crime Statute. The complaint alleges
that CoStar unlawfully copied and used LoopNet's data and seeks injunctive
relief, compensatory damages, restitution and other costs (including attorneys’
fees) to be proven at trial. LoopNet does not contend that anyone at
CoStar has logged into LoopNet’s website and copied listings, nor does CoStar
believe that to be the case. Instead, the central contention of
LoopNet’s lawsuit appears to be that it is unlawful for CoStar to use
information provided to CoStar by commercial real estate brokers and property
owners that: (1) type in their own listings and upload their own photos into
either LoopNet’s listing service or LoopNet's software and web site hosting
solution, LoopLink, and (2) use either the “email to a friend” function
available within LoopNet’s service to send their listings for marketing on
CoStar, or direct CoStar personnel to market the listings that appear on the
brokers' or owners' websites.
This
contention is presumably based on the assumption that LoopNet controls the
listings created by commercial real estate brokers and owners that use LoopNet
and that LoopNet can prevent brokers and owners from marketing their own
listings if the listings also appear on LoopNet's listing service or a website
hosted by LoopLink. CoStar believes that LoopNet’s claims are
unfounded.
CoStar
filed its Answer and several claims against LoopNet in this proceeding,
including breach of contract, unfair competition and other claims. We
are seeking injunctive relief, restitution, pre-judgment interest, costs and
disbursements, attorneys’ fees and direct, consequential, compensatory and
punitive damages. LoopNet has filed a motion to strike CoStar’s
claims against LoopNet in this action.
Were
LoopNet to prevail in this lawsuit, we could be required to make payments and/or
comply with injunctive relief, including potentially removal of certain
listings, which could negatively impact our business and operating
results. Although no assurance can be given as to the outcome of this
lawsuit, CoStar believes LoopNet's allegations are without merit and intends to
vigorously defend itself.
On
February 5, 2008, we filed a complaint in the United States District Court for
the Southern District of New York against LoopNet for false advertising under
Section 43(a) of the Lanham Act. CoStar alleges that LoopNet has
engaged in false advertising by making misleading statements to the marketplace
about the number of people that use its website. Specifically, CoStar
believes, based on current statements made by LoopNet, that the 2.5 million
registered users that LoopNet reports is not the number of current users, but
rather the total cumulative number of user IDs created over the last decade or
so and therefore includes user IDs that have not been used in years, and in some
cases, multiple user IDs for the same person. Our lawsuit alleges
that LoopNet’s use of this 2.5 million figure to competitively market how many
users it currently has is false and misleading.
CoStar's
complaint seeks injunctive relief and the maximum dollar amount permitted under
the Lanham Act, as well as attorneys’ fees and costs. LoopNet has not
yet answered CoStar’s complaint.
Currently,
and from time to time, we are involved in litigation incidental to the conduct
of our business. We are not a party to any lawsuits or proceedings that, in the
opinion of our management based on consultations with legal counsel, are likely
to have a material adverse effect on our financial position or results of
operations.
|
Item
4.
|
Submission
of Matters to a Vote of Security
Holders
|
We did
not submit any matters to a vote of our security holders during the quarter
ended December 31, 2007.
PART
II
|
Item
5.
|
Market
for the Registrant’s Common Stock, Related Stockholder Matters and Issuer
Purchases of Equity Securities
|
Price Range of Common Stock.
Our common stock is traded on the Nasdaq Global Select Market® under the
symbol “CSGP.” The following table sets forth, for the periods indicated, the
high and low daily closing prices per share of our common stock, as reported by
the Nasdaq Global Select Market®.
|
High
|
Low
|
|||||||
|
Year
Ended December 31, 2006
|
||||||||
|
First
Quarter
|
$ | 56.43 | $ | 43.28 | ||||
|
Second
Quarter
|
$ | 61.22 | $ | 48.65 | ||||
|
Third
Quarter
|
$ | 60.57 | $ | 38.52 | ||||
|
Fourth
Quarter
|
$ | 55.20 | $ | 41.04 | ||||
|
Year
Ended December 31, 2007
|
||||||||
|
First
Quarter
|
$ | 52.15 | $ | 43.44 | ||||
|
Second
Quarter
|
$ | 55.71 | $ | 44.95 | ||||
|
Third
Quarter
|
$ | 58.49 | $ | 50.70 | ||||
|
Fourth
Quarter
|
$ | 61.65 | $ | 44.48 | ||||
As of
February 1, 2008, there were approximately 210 holders of record of our common
stock.
Dividend Policy.
We have
never declared or paid any dividends on our common stock. Any future
determination to pay dividends will be at the discretion of our Board of
Directors, subject to applicable limitations under Delaware law, and will be
dependent upon our results of operations, financial position and other factors
deemed relevant by our Board of Directors. We do not anticipate paying any
dividends on our common stock during the foreseeable future, but intend to
retain any earnings for future growth of our business.
Recent Issues of Unregistered
Securities.
We did not issue any unregistered securities during the
quarter ended December 31, 2007.
Issuer Purchases of Equity
Securities.
The following table is a summary of
our repurchases of common stock during each of the three months in the quarter
ended December 31, 2007:
ISSUER
PURCHASES OF EQUITY SECURITIES
|
Month,
2007
|
Total
Number of Shares Purchased
|
Average
Price Paid per Share
|
Total
Number of Shares Purchased as Part of Publicly Announced Plans or
Programs
|
Maximum
Number of Shares that May Yet Be Purchased Under the Plans or
Programs
|
||||||||||||
|
October
1 through 31
|
-- | -- | -- | -- | ||||||||||||
|
November
1 through 30
|
-- | -- | -- | -- | ||||||||||||
|
December
1 through 31
|
1,442
|
(1) | $ | 46.50 | -- | -- | ||||||||||
|
Total
|
1,442
|
$ | 46.50 | -- | -- | |||||||||||
(1)
The
number of shares purchased consists of shares of common stock tendered by
employees to the Company to satisfy the employees’ tax withholding obligations
arising as a result of vesting of restricted stock grants under the Company’s
1998 Stock Incentive Plan, as amended, which shares were purchased by the
Company based on their fair market value on the vesting date. None of
these share purchases were part of a publicly announced program to purchase
common stock of the Company.
Stock
Price Performance Graph
The stock
performance graph below shows how an initial investment of $100 in our common
stock would have compared to:
|
·
|
An
equal investment in the Standards & Poor's Stock 500 (“S&P
500”) Index.
|
|
·
|
An
equal investment in the S&P 500 Application Software
Index.
|
The
comparison covers the period beginning December 31, 2002, and ending on December
31, 2007, and assumes the reinvestment of any dividends. You should note that
this performance is historical and is not necessarily indicative of future price
performance.
|
Company
/ Index
|
12/31/02
|
12/31/03
|
12/31/04
|
12/31/05
|
12/31/06
|
12/31/07
|
|
CoStar
Group, Inc.
|
100
|
226.02
|
250.30
|
233.98
|
290.30
|
256.10
|
|
S&P
500 Index
|
100
|
128.68
|
142.69
|
149.70
|
173.34
|
182.86
|
|
S&P
500 Application Software Index
|
100
|
145.10
|
161.98
|
179.29
|
188.85
|
209.77
|
|
Item
6.
|
Selected
Consolidated Financial and Operating
Data
|
Selected
Consolidated Financial and Operating Data
(in
thousands, except per share data and other operating data)
The
following table provides selected consolidated financial and other operating
data for the five years ended December 31, 2007. The consolidated statement of
operations data shown below for each of the three years ended December 31, 2005,
2006, and 2007 and the consolidated balance sheet data as of December 31, 2006
and 2007 are derived from audited consolidated financial statements that are
included in this report. The consolidated statement of operations data for each
of the years ended December 31, 2003 and 2004 and the consolidated balance sheet
data as of December 31, 2003, 2004, and 2005 shown below are derived from
audited consolidated financial statements for those years that are not included
in this report.
|
Year
Ended December 31,
|
||||||||||||||||||||
|
Consolidated
Statement of Operations Data:
|
2003
|
2004
|
2005
|
2006
|
2007
|
|||||||||||||||
|
Revenues
|
$ | 95,105 | $ | 112,085 | $ | 134,338 | $ | 158,889 | $ | 192,805 | ||||||||||
|
Cost
of revenues
|
30,742 | 35,384 | 44,286 | 56,136 | 76,704 | |||||||||||||||
|
Gross
margin
|
64,363 | 76,701 | 90,052 | 102,753 | 116,101 | |||||||||||||||
|
Operating
expenses
|
64,361 | 69,955 | 82,710 | 88,672 | 98,249 | |||||||||||||||
|
Income
from operations
|
2 | 6,746 | 7,342 | 14,081 | 17,852 | |||||||||||||||
|
Interest
and other income, net
|
380 | 1,314 | 3,455 | 6,845 | 8,045 | |||||||||||||||
|
Income
before income taxes
|
382 | 8,060 | 10,797 | 20,926 | 25,897 | |||||||||||||||
|
Income
tax expense (benefit), net
|
282 | (16,925 | ) | 4,340 | 8,516 | 9,946 | ||||||||||||||
|
Net
income
|
$ | 100 | $ | 24,985 | $ | 6,457 | $ | 12,410 | $ | 15,951 | ||||||||||
|
Net
income per share
-
basic
|
$ | 0.01 | $ | 1.38 | $ | 0.35 | $ | 0.66 | $ | 0.84 | ||||||||||
|
Net
income per share
-
diluted
|
$ | 0.01 | $ | 1.33 | $ | 0.34 | $ | 0.65 | $ | 0.82 | ||||||||||
|
Weighted
average shares outstanding
-
basic
|
16,202 | 18,165 | 18,453 | 18,751 | 19,044 | |||||||||||||||
|
Weighted
average shares outstanding
-
diluted
|
16,674 | 18,827 | 19,007 | 19,165 | 19,404 | |||||||||||||||
|
As
of December 31,
|
||||||||||||||||||||
|
Consolidated
Balance Sheet Data:
|
2003
|
2004
|
2005
|
2006
|
2007
|
|||||||||||||||
|
Cash,
cash equivalents, and short-term investments
|
$ | 97,449 | $ | 117,069 | $ | 134,185 | $ | 158,148 | $ | 187,426 | ||||||||||
|
Working
capital
|
88,207 | 107,875 | 124,501 | 154,606 | 167,441 | |||||||||||||||
|
Total
assets
|
183,900 | 232,691 | 248,059 | 275,437 | 321,843 | |||||||||||||||
|
Total
liabilities
|
15,531 | 21,747 | 23,263 | 25,327 | 40,038 | |||||||||||||||
|
Stockholders’
equity
|
168,369 | 210,944 | 224,796 | 250,110 | 281,805 | |||||||||||||||
|
As
of December 31,
|
||||||||||||||||||||
|
Other
Operating Data:
|
2003 |
2004
|
2005
|
2006
|
2007
|
|||||||||||||||
|
Number
of subscription client sites
|
8,582
|
9,489
|
11,464
|
13,257
|
14,467
|
|||||||||||||||
|
Millions
of properties in database
|
1.5
|
1.6
|
1.8
|
2.1
|
2.7
|
|||||||||||||||
|
Item 7.
|
Management’s Discussion and
Analysis of Financial Condition and Results of
Operations
|
The
following Management’s Discussion and Analysis of Financial Condition and
Results of Operations contains “forward-looking statements,” including
statements about our beliefs and expectations. There are many risks and
uncertainties that could cause actual results to differ materially from those
discussed in the forward-looking statements. Potential factors that could cause
actual results to differ materially from those discussed in any forward-looking
statements include, but are not limited to, those stated above in Item 1A. under
the headings “Risk Factors
¾
Cautionary Statement
Concerning Forward-Looking Statements” and “
¾
Risk Factors,” as well as
those described from time to time in our filings with the Securities and
Exchange Commission.
All
forward-looking statements are based on information available to us on the date
of this filing and we assume no obligation to update such statements. The
following discussion should be read in conjunction with our Annual Reports on
Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and other
filings with the Securities and Exchange Commission and the consolidated
financial statements and related notes in this Annual Report on Form
10-K.
Overview
CoStar is
the leading provider of information services to the commercial real estate
industry in the United States and the United Kingdom based on the fact that we
offer the most comprehensive commercial real estate database available, have the
largest research department in the industry, provide more information services
than any of our competitors and believe we generate more revenues than any of
our competitors. We have created a standardized information platform where the
members of the commercial real estate and related business community can
continuously interact and facilitate transactions by efficiently exchanging
accurate and standardized commercial real estate information. Our integrated
suite of online service offerings includes information about space available for
lease, comparable sales information, tenant information, information about
properties for sale, information for clients' websites, information about
industry professionals and their business relationships, analytic information,
data integration, property marketing and industry news. Our service offerings
span all commercial property types - office, industrial, retail, land,
mixed-use, hospitality and multifamily.
Since
1994, we have expanded the geographical coverage of our existing information
services and developed new information services. In addition to internal growth,
this expansion included the acquisitions of Chicago ReSource, Inc. in Chicago in
1996 and New Market Systems, Inc. in San Francisco in 1997. In August 1998,
we expanded into the Houston region through the acquisition of Houston-based
real estate information provider C Data Services, Inc. In January 1999, we
expanded further into the Midwest and Florida by acquiring LeaseTrend, Inc. and
into Atlanta and Dallas/Fort Worth by acquiring Jamison Research, Inc. In
February 2000, we acquired COMPS.COM, Inc., a San Diego-based provider of
commercial real estate information. In November 2000, we acquired First Image
Technologies, Inc. In September 2002, we expanded further into Portland, Oregon
through the acquisition of certain assets of Napier Realty Advisors d/b/a
REAL-NET. In January 2003, we established a base in the U.K. with our
acquisition of London-based FOCUS Information Limited. In May 2004, we expanded
into Tennessee through the acquisition of Peer Market Research, Inc., and in
September 2004, we extended our coverage of the U.K. through the acquisition of
Scottish Property Network. In September 2004, we strengthened our position in
Denver, Colorado through the acquisition of substantially all of the assets of
RealComp, Inc., a local comparable sales information provider. In January 2005,
we acquired National Research Bureau, a leading provider of U.S. shopping
center information. Additionally, in December 2006, our U.K. subsidiary, CoStar
Limited, acquired Grecam S.A.S. (“Grecam”), a provider of commercial property
information and market-level surveys, studies and consulting services located in
Paris, France. In February 2007, CoStar Limited also acquired Property
Investment Exchange Limited (“Propex”), a provider of commercial property
information and operator of an online investment property exchange located in
London, England. The more recent acquisitions are discussed later in this
section under the heading “Recent Acquisitions.”
In 2004,
we began our expansion into 21 new metropolitan markets throughout the U.S., as
well as expanding the geographical coverage of many of our existing U.S. and
U.K. markets. In the first quarter of 2006, our expansion into the 21 new
markets was complete.
In early
2005, we announced the launch of a major effort to expand our coverage of retail
real estate information. The new retail component of our flagship product,
CoStar Property Professional, was unveiled in May 2006 at the International
Council of Shopping Centers’ convention in Las Vegas.
During
the second half of 2006, we began actively researching commercial properties in
81 new Core Based Statistical Areas (“CBSAs”) in the U.S., increased our U.S.
field research fleet by adding 89 vehicles and hired researchers to staff these
vehicles. In March 2007, we signed a long-term lease for a new research facility
in White Marsh, Maryland, in support of our expanded research efforts and hired
and trained additional researchers and other personnel. We released our CoStar
Property Professional service in the 81 new CBSAs across the U.S. in
the fourth quarter of 2007 in an effort to further expand the geographical
coverage of our service offerings, including our retail service.
We
believe that there is opportunity to capture potential revenue from prospective
customers for our service in our current markets. We have restructured and
expanded our field sales force in the U.S. to take advantage of this market
opportunity. In the fourth quarter of 2006, we began rapidly expanding the size
of our sales force and have since doubled its size. Sales representatives with
less than a year of experience tend to be less productive than representatives
with more than a year of experience. We expect that productivity per sales
person will increase over the next year.
In
connection with our recent acquisitions of Propex and Grecam, we intend to
expand the coverage of our service offerings within the U.K., integrate our
international operations more fully with those of the U.S., and eventually
to introduce a consistent international platform of service offerings. We
recently introduced the CoStar Group as the “brand” encompassing our
international operations.
To cost
effectively manage the growth of our international operations, we opened a
research operations center in Glasgow, Scotland in 2007, rather than expand our
operations in London. During the third quarter of 2007, we took steps to
consolidate and streamline our international operations. As a result of these
steps, certain management and staff positions in the U.K. were made redundant,
which reduced certain costs and the amount of office space required in London.
On September 14, 2007, CoStar UK Limited, a wholly owned U.K. subsidiary of
CoStar, entered into an agreement to assign the leasehold for our London office
in Mayfair. Effective December 19, 2007, CoStar UK Limited assigned its lease
interest in that office space in exchange for a payment of $7.6 million, net of
expenses. We consolidated our London offices in Mayfair and Sheen into one
facility in central London. We expect to gain operational efficiencies as a
result of consolidating a majority of our U.K. research operations in one
location in Glasgow and combining the majority of our remaining U.K. operations
in one central location in London.
Our
expansion into 81 new CBSAs, expansion of our coverage in existing markets,
sales force expansion and expansion and integration of our international
operations has caused our costs in 2007 to escalate over costs in 2006. However,
as we complete these initiatives and the related costs stabilize, we believe
they will facilitate the generation of additional revenue and provide a platform
for earnings growth. Our 2007 results reflect growth in earnings as a result of
these investments in our business, and we expect revenues to continue to grow
over what is now a relatively fixed cost base for our U.S. research
operations.
Although
we do not currently plan to initiate new significant investments through 2008,
we expect to continue to develop and distribute new services, expand existing
services within our current platform, consider strategic acquisitions and expand
and develop our sales and marketing organization. Any future expansion could
reduce our profitability and increase our capital expenditures. Therefore, while
we expect current service offerings in to remain profitable, driving overall
earnings growth throughout 2008 and providing substantial cash flow for our
business, it is possible that any new investments could cause us to generate
losses and negative cash flow from operations in the future.
We expect
2008 revenue to grow over 2007 revenue as a result of further penetration of our
services in our potential customer base across our platform, successful cross
selling of our services to our existing customer base, continued depth of
coverage and acquisitions. We expect that 2008 EBITDA, which is our net income
before interest, income taxes, depreciation and amortization, will increase over
2007 based on the growth in EBITDA from U.S. operations. We anticipate that our
EBITDA for our existing core U.S. platform will continue to grow principally due
to growth in revenue. We believe the company is well positioned to generate
continued, sustained earnings through the end of 2008.
We
currently issue restricted stock and stock options to our officers, directors
and employees, and as a result we record additional compensation expense in our
consolidated statements of operations. We plan to continue the use of
alternative stock-based compensation for our officers, directors and employees,
which may include, among other things, restricted stock or stock option grants
that typically will require us to record additional compensation expense in our
consolidated statements of operations and reduce our net income. We incurred
approximately $5.4 million in total equity compensation expense in
2007.
Our
subscription-based information services, consisting primarily of CoStar Property
Professional, CoStar Tenant, CoStar COMPS Professional, FOCUS services and
Propex services currently generate approximately 95% of our total revenues. Our
contracts for our subscription-based information services typically have a
minimum term of one year and renew automatically. Upon renewal, many of the
subscription contract rates may increase in accordance with contract provisions
or as a result of contract renegotiations. To encourage clients to use our
services regularly, we generally charge a fixed monthly amount for our
subscription-based services rather than fees based on actual system usage.
Contract rates are based on the number of sites, number of users,
organization size, the client’s business focus, geography and the number of
services to which a client subscribes. Our subscription clients generally pay
contract fees on a monthly basis, but in some cases may pay us on a quarterly or
annual basis. We recognize this revenue on a straight-line basis over the life
of the contract. Annual and quarterly advance payments result in deferred
revenue, substantially reducing the working capital requirements generated by
accounts receivable.
For the
years ended December 31, 2006 and 2007, our contract renewal rate was over
90%.
Application
of Critical Accounting Policies and Estimates
The
preparation of financial statements and related disclosures in conformity with
generally accepted accounting principles (“GAAP”) in the United States of
America, requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities, the disclosure of contingent assets
and liabilities at the date of the financial statements and revenues and
expenses during the period reported. The following accounting policies involve a
“critical accounting estimate” because they are particularly dependent on
estimates and assumptions made by management about matters that are highly
uncertain at the time the accounting estimates are made. In addition, while we
have used our best estimates based on facts and circumstances available to us at
the time, different estimates reasonably could have been used in the current
period. Changes in the accounting estimates we use are reasonably likely to
occur from period to period, which may have a material impact on the
presentation of our financial condition and results of operations. We review
these estimates and assumptions periodically and reflect the effects of
revisions in the period that they are determined to be necessary.
Valuation
of Long-Lived and Intangible Assets and Goodwill
We assess
the impairment of long-lived assets, identifiable intangibles and goodwill
whenever events or changes in circumstances indicate that the carrying value may
not be recoverable. Judgments made by the Company relate to the expected useful
lives of long-lived assets and its ability to realize any undiscounted cash
flows of the carrying amounts of such assets and are affected by the factors
listed below:
|
|
•
|
Significant
underperformance relative to historical or projected future operating
results;
|
|
|
•
|
Significant
changes in the manner of our use of the acquired assets or the strategy
for our overall business;
|
|
|
•
|
Significant
negative industry or economic trends;
or
|
|
|
•
|
Significant
decline in our market capitalization relative to net book value for a
sustained period.
|
When we
determine that the carrying value of long-lived and identifiable intangible
assets may not be recovered based upon the existence of one or more of the above
indicators, we measure any impairment based on a projected discounted cash flow
method using a discount rate determined by our management to be commensurate
with the risk inherent in our current business model.
Goodwill
and identifiable intangible assets not subject to amortization are tested
annually by operating segment on October 1
st
of each
year for impairment and are tested for impairment more frequently based upon the
existence of one or more of the above indicators. We measure any impairment loss
to the extent that the carrying amount of the asset exceeds its fair
value.
Accounting
for Income Taxes
As part
of the process of preparing our consolidated financial statements, we are
required to estimate our income taxes in each of the jurisdictions in which we
operate. This process requires us to estimate our actual current tax exposure
and assess the temporary differences resulting from differing treatment of
items, such as deferred revenue or deductibility of certain intangible assets,
for tax and accounting purposes. These differences result in deferred tax assets
and liabilities, which are included within our consolidated balance sheets. We
must then also assess the likelihood that our deferred tax assets will be
recovered from future taxable income, and, to the extent we believe that it is
more-likely-than not that some portion or all of our deferred tax assets will
not be realized, we must establish a valuation allowance. To the
extent we establish a valuation allowance or change the allowance in a period,
we must reflect the corresponding increase or decrease within the tax provision
in the statements of operations.
At
December 31, 2007, we had net operating loss carryforwards for federal income
tax purposes of approximately $14.9 million, which we expect to use during
2008.
As a
result, we expect cash payments for taxes during 2008 of approximately
$12.0 million because our U.S. taxable income will no longer be absorbed by
carryforward losses. Our U.K. operations are expected to generate net
operating losses for the full year 2008. Losses in the U.K., will
generate a lower tax benefit than if the costs were incurred in the U.S.,
thereby creating a higher effective tax rate in 2008.
Non-GAAP
Financial Measures
We
prepare and publicly release quarterly unaudited financial statements prepared
in accordance with GAAP. We also disclose and discuss certain non-GAAP financial
measures in our public releases. Currently, the non-GAAP financial measure that
we disclose is EBITDA, which is our net income (loss) before interest, income
taxes, depreciation and amortization. We disclose EBITDA in our earnings
releases, investor conference calls and filings with the Securities and Exchange
Commission. The non-GAAP financial measures that we use may not be comparable to
similarly titled measures reported by other companies. Also, in the future, we
may disclose different non-GAAP financial measures in order to help our
investors more meaningfully evaluate and compare our future results of
operations to our previously reported results of operations.
We view
EBITDA as an operating performance measure and as such we believe that the GAAP
financial measure most directly comparable to it is net income (loss). In
calculating EBITDA, we exclude from net income (loss) the financial items that
we believe should be separately identified to provide additional analysis of the
financial components of the day-to-day operation of our business. We have
outlined below the type and scope of these exclusions and the material
limitations on the use of these non-GAAP financial measures as a result of these
exclusions. EBITDA is not a measurement of financial performance under GAAP and
should not be considered as a measure of liquidity, as an alternative to net
income (loss) or as an indicator of any other measure of performance derived in
accordance with GAAP. Investors and potential investors in our securities should
not rely on EBITDA as a substitute for any GAAP financial measure, including net
income (loss). In addition, we urge investors and potential investors in our
securities to carefully review the reconciliation of EBITDA to net income (loss)
set forth below, in our earnings releases and in other filings with the
Securities and Exchange Commission and to carefully review the GAAP financial
information included as part of our Quarterly Reports on Form 10-Q and our
Annual Reports on Form 10-K that are filed with the Securities and Exchange
Commission, as well as our quarterly earnings releases, and compare the GAAP
financial information with our EBITDA.
EBITDA is
used by management to internally measure our operating and management
performance and by investors as a supplemental financial measure to evaluate the
performance of our business that, when viewed with our GAAP results and the
accompanying reconciliation, we believe provides additional information that is
useful to gain an understanding of the factors and trends affecting our
business. We have spent more than 20 years building
27
our
database of commercial real estate information and expanding our markets and
services partially through acquisitions of complementary businesses. Due to the
expansion of our information services, which included acquisitions, our net
income (loss) has included significant charges for purchase amortization,
depreciation and other amortization. EBITDA excludes these charges and provides
meaningful information about the operating performance of our business, apart
from charges for purchase amortization, depreciation and other amortization. We
believe the disclosure of EBITDA helps investors meaningfully evaluate and
compare our performance from quarter to quarter and from year to year. We also
believe EBITDA is a measure of our ongoing operating performance because the
isolation of non-cash charges, such as amortization and depreciation, and
non-operating items, such as interest and income taxes, provides additional
information about our cost structure, and, over time, helps track our operating
progress. In addition, investors, securities analysts and others have regularly
relied on EBITDA to provide a financial measure by which to compare our
operating performance against that of other companies in our
industry.
Set forth
below are descriptions of the financial items that have been excluded from our
net income (loss) to calculate EBITDA and the material limitations associated
with using this non-GAAP financial measure as compared to net income
(loss):
|
|
·
|
Purchase
amortization in cost of revenues may be useful for investors to consider
because it represents the use of our acquired database technology, which
is one of the sources of information for our database of commercial real
estate information. We do not believe these charges necessarily reflect
the current and ongoing cash charges related to our operating cost
structure.
|
|
|
·
|
Purchase
amortization in operating expenses may be useful for investors to consider
because it represents the estimated attrition of our acquired customer
base and the diminishing value of any acquired trade names. We do not
believe these charges necessarily reflect the current and ongoing cash
charges related to our operating cost
structure.
|
|
|
·
|
Depreciation
and other amortization may be useful for investors to consider because
they generally represent the wear and tear on our property and equipment
used in our operations. We do not believe these charges necessarily
reflect the current and ongoing cash charges related to our operating cost
structure.
|
|
|
·
|
The
amount of net interest income we generate may be useful for investors to
consider and may result in current cash inflows or outflows. However, we
do not consider the amount of net interest income to be a representative
component of the day-to-day operating performance of our
business.
|
|
|
·
|
Income
tax expense (benefit) may be useful for investors to consider because
it generally represents the taxes which may be payable for the period and
the change in deferred income taxes during the period and may reduce the
amount of funds otherwise available for use in our
business. However, we do not consider the amount of income tax
expense (benefit) to be a representative component of the day-to-day
operating performance of our
business.
|
Management
compensates for the above-described limitations of using non-GAAP measures by
using a non-GAAP measure only to supplement our GAAP results and to provide
additional information that is useful to gain an understanding of the factors
and trends affecting our business.
The
following table shows our EBITDA reconciled to our net income and our cash flows
from operating, investing and financing activities for the indicated periods (in
thousands):
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Net
income
|
$ | 6,457 | $ | 12,410 | $ | 15,951 | ||||||
|
Purchase
amortization in cost of
revenues
|
1,250 | 1,205 | 2,170 | |||||||||
|
Purchase
amortization in operating
expenses
|
4,469 | 4,183 | 5,063 | |||||||||
|
Depreciation
and other
amortization
|
5,995 | 6,421 | 8,914 | |||||||||
|
Interest
income,
net
|
(3,455 | ) | (6,845 | ) | (8,045 | ) | ||||||
|
Income
tax expense,
net
|
4,340 | 8,516 | 9,946 | |||||||||
|
EBITDA
|
$ | 19,056 | $ | 25,890 | $ | 33,999 | ||||||
|
Cash
flows provided by (used in)
|
||||||||||||
|
Operating
activities
|
$ | 22,919 | $ | 32,751 | $ | 51,799 | ||||||
|
Investing
activities
|
$ | (38,732 | ) | $ | (28,493 | ) | $ | (40,398 | ) | |||
|
Financing
activities
|
$ | 7,412 | $ | 5,582 | $ | 8,161 | ||||||
Consolidated
Results of Operations
The
following
table
provides our selected consolidated results of operations for the indicated
periods (in thousands of dollars and as a percentage of total
revenue):
|
Year
Ended December 31,
|
||||||||||||||||||||||||
|
2005
|
2006
|
2007
|
||||||||||||||||||||||
|
Revenues
|
$ | 134,338 | 100.0 | % | $ | 158,889 | 100.0 | % | $ | 192,805 | 100.0 | % | ||||||||||||
|
Cost
of
revenues
|
44,286 | 33.0 | 56,136 | 35.3 | 76,704 | 39.8 | ||||||||||||||||||
|
Gross
margin
|
90,052 | 67.0 | 102,753 | 64.7 | 116,101 | 60.2 | ||||||||||||||||||
|
Operating
expenses:
|
||||||||||||||||||||||||
|
Selling
and
marketing
|
38,351 | 28.6 | 41,774 | 26.3 | 51,777 | 26.9 | ||||||||||||||||||
|
Software
development
|
10,123 | 7.5 | 12,008 | 7.6 | 12,453 | 6.5 | ||||||||||||||||||
|
General
and
administrative
|
27,550 | 20.5 | 30,707 | 19.3 | 36,569 | 19.0 | ||||||||||||||||||
|
Restructuring
charge
|
2,217 | 1.7 | ¾ | 0.0 | ¾ | 0.0 | ||||||||||||||||||
|
Gain
on lease settlement, net
|
¾ | 0.0 | ¾ | 0.0 | (7,613 | ) | (3.9 | ) | ||||||||||||||||
|
Purchase
amortization
|
4,469 | 3.3 | 4,183 | 2.6 | 5,063 | 2.6 | ||||||||||||||||||
|
Total
operating
expenses
|
82,710 | 61.6 | 88,672 | 55.8 | 98,249 | 51.0 | ||||||||||||||||||
|
Income
from
operations
|
7,342 | 5.4 | 14,081 | 8.9 | 17,852 | 9.3 | ||||||||||||||||||
|
Interest and
other income, net
|
3,455 | 2.6 | 6,845 | 4.3 | 8,045 | 4.2 | ||||||||||||||||||
|
Income
before income
taxes
|
10,797 | 8.0 | 20,926 | 13.2 | 25,897 | 13.4 | ||||||||||||||||||
|
Income
tax expense,
net
|
4,340 | 3.2 | 8,516 | 5.4 | 9,946 | 5.2 | ||||||||||||||||||
|
Net
income
|
$ | 6,457 | 4.8 | % | $ | 12,410 | 7.8 | % | $ | 15,951 | 8.3 | % | ||||||||||||
Comparison
of Year Ended December 31, 2007 and Year Ended December 31, 2006
Revenues
. Revenues grew 21.3%
to $192.8 million in 2007, from $158.9 million in 2006. This increase in revenue
has resulted from continued penetration of our subscription-based information
services, the successful cross-selling of additional products and services to
our existing customer base combined with a continued high renewal rate, and
additional revenues from acquired companies, including Grecam, acquired in
December 2006, and Propex, acquired in February 2007. Our subscription-based
information services consist primarily of CoStar
Property
Professional, CoStar Tenant, CoStar COMPS Professional, FOCUS services and
Propex services. As of December 31, 2007, our subscription-based information
services represented approximately 95% of our total revenues.
Gross Margin
. Gross margin
increased to $116.1 million in 2007, from $102.8 million in 2006. The gross
margin percentage decreased to 60.2% in 2007, from 64.7% in 2006. The increase
in the gross margin amount resulted principally from revenue growth from our
subscription-based information services, partially offset by an increase in cost
of revenues. The decrease in gross margin percentage was principally due to an
increase in the cost of revenues to $76.7 million for 2007, from $56.1 million
for 2006. The increase in cost of revenues resulted from increased research
department hiring, training, compensation and other operating costs, principally
in connection with our retail and 81 new CBSA expansions, and our international
expansion, as well as increased cost structures associated with the acquisitions
of Grecam and Propex.
Selling and Marketing
Expenses
. Selling and marketing expenses increased to $51.8 million in
2007, from $41.8 million in 2006, and increased as a percentage of revenues to
26.9% in 2007, from 26.3% in 2006. The increase in the amount of selling and
marketing expenses is primarily due to increased growth in the sales force,
increased marketing efforts, as well as increased cost structures associated
with the acquisition of Propex.
Software Development
Expenses
. Software development expenses increased to $12.5 million in
2007, from $12.0 million in 2006, and decreased as a percentage of revenues to
6.5% in 2007, from 7.6% in 2006. The increase in the amount of software
development expenses was primarily due to increased costs associated with the
continued development of an international platform. The decrease in the
percentage was primarily due to our continued efforts to control and leverage
our costs.
General and Administrative
Expenses
. General and administrative expenses increased to $36.6 million
in 2007, from $30.7 million in 2006, and decreased slightly as a percentage
of revenues to 19.0% in 2007, from 19.3% in 2006. The increase primarily
includes increases in personnel expenses, cost structures associated with the
acquisition of Propex and equity compensation.
Gain on Lease Settlement, Net.
On September 14, 2007, CoStar Limited, a wholly owned U.K. subsidiary of
CoStar, entered into an agreement with Trafigura Limited to assign to Trafigura
our leasehold interest in the office space located in London. The lease
assignment was effective on December 19, 2007. As a result, CoStar U.K. was paid
$7.6 million, net of expenses, for the assignment of the lease. There were no
gains on lease settlements in 2006.
Purchase Amortization.
Purchase amortization increased to $5.1 million in 2007, from $4.2 million
in 2006, and remained consistent as a percentage of revenues at 2.6% in 2007 and
2006. This increase in the amount was due to the acquisitions of Grecam and
Propex.
Interest and Other Income, Net.
Interest and other income, net increased to $8.0 million in 2007, from
$6.8
million in
2006. This increase was primarily due to higher interest income as a result of
higher total short-term investment balances for 2007 and increased interest
rates for 2007 as compared to 2006.
Income Tax Expense, Net.
Income tax expense, net increased to $9.9 million in 2007, from $8.5
million in 2006. This increase was due to higher income before income taxes for
2007, partially offset by a lower effective tax rate. The effective
tax rate was lower in 2007 due to the gain on lease settlement in the U.K. that
was completed in December 2007. The lease settlement resulted in
income in the U.K., which reduced the overall effective tax rate.
Comparison
of Business Segment Results for Year Ended December 31, 2007 and Year Ended
December 31, 2006
Due to
the increased size, complexity and funding requirements associated with our
international expansion, in 2007 we began to manage our business geographically
in two operating segments, with our primary areas of measurement and
decision-making being the U.S. and International, which includes the U.K. and
France. Management relies on an internal management reporting process that
provides revenue and segment EBITDA, which is our net income before interest,
income taxes, depreciation and amortization. Management believes that
30
segment
EBITDA is an appropriate measure for evaluating the operational performance of
our segments. EBITDA is used by management to internally measure our operating
and management performance and to evaluate the performance of our business.
However, this measure should be considered in addition to, not as a substitute
for or superior to, income from operations or other measures of financial
performance prepared in accordance with GAAP.
Segment
Revenues
. U.S. revenues
increased to $170.3 million from $146.1 million for the years ended December 31,
2007 and 2006, respectively. This increase in U.S. revenue is due to further
penetration of our U.S. subscription-based information services and the
successful cross-selling into our customer base across our service platform in
existing markets, combined with a continued high renewal rate. International
revenues increased to $22.5 million from $12.8 million for the years ended
December 31, 2007 and 2006, respectively. This increase in international revenue
is principally a result of a combination of further penetration of our
subscription-based information services in the U.K. and the acquisitions of
Grecam and Propex.
Segment EBITDA.
U.S. EBITDA
increased to $32.9 million from $26.2 million for the years ended December 31,
2007 and 2006, respectively. The increase in U.S. EBITDA was due to increased
revenues, partially offset by increased research costs and growth in our sales
force as a result of our expansion. International EBITDA increased to $1.1
million from a loss of $315,000 for the years ended December 31, 2007 and 2006,
respectively. This increase is primarily due to the assignment of our lease to
Trafigura, offset by our increased investment in international expansion.
International EBITDA also includes a corporate allocation of approximately $2.6
million and $1.0 million for the years ended December 31, 2007 and 2006,
respectively. The corporate allocation represents costs incurred for U.S.
employees involved in international management and expansion
activities.
Comparison
of Year Ended December 31, 2006 and Year Ended December 31, 2005
Revenues.
Revenues grew 18.3%
to $158.9 million in 2006, from $134.3 million in 2005. This increase in revenue
is principally due to further penetration of our subscription-based information
services, as well as the successful cross selling to our customer base across
our service platform in existing markets combined with continued high renewal
rates. Our subscription-based information services consist primarily of CoStar
Property Professional, CoStar Tenant, CoStar COMPS Professional and FOCUS
services. As of December 31, 2006, our subscription-based information services
represented 96% of our total revenues.
Gross Margin.
Gross margin
increased to $102.8 million in 2006, from $90.1 million in 2005. Gross margin
percentage decreased to 64.7% in 2006, from 67.0% in 2005. The increase in the
gross margin amount resulted principally from internal revenue growth from our
subscription-based information services, partially offset by an increase in cost
of revenues. Cost of revenues increased to $56.1 million in 2006, from $44.3
million in 2005, principally due to increased research department hiring,
training, compensation and other operating costs and the addition of offshore
resources from our geographic and retail expansion, as well as research costs
associated with further service enhancements to our existing
platform.
Selling and Marketing Expenses.
Selling and marketing expenses increased to $41.8 million in 2006, from
$38.4 million in 2005 and decreased as a percentage of revenues to 26.3% in
2006, from 28.6% in 2005. The increase in the amount of selling and marketing
expenses is primarily due to sales and marketing efforts for our current retail
and geographic expansion plan as well as costs associated with growth in the
sales force. Additionally, stock-based compensation expense, due to
the implementation of SFAS 123R, included in selling and marketing expenses for
the year ended December 31, 2006, was $1.3 million compared to approximately
$19,000 for the year ended December 31, 2005.
Software Development Expenses.
Software development expenses increased to $12.0 million in 2006, from
$10.1 million in 2005 and remained relatively consistent as a percentage of
revenues to 7.6% in 2006, from 7.5% in 2005. The majority of the increase in the
amount of software and development expense was due to the hiring of new
employees to support our continued focus on enhancements to our existing
services, development of new services and development costs for our internal
information systems.
General and Administrative Expenses.
General and administrative expenses increased to $30.7 million in 2006,
from $27.6 million in 2005 and decreased as a percentage of revenues to 19.3% in
2006, from 20.5% in 2005. The increase in the amount of general and
administrative expenses was primarily due to an increase in stock-based
compensation, due to the implementation of SFAS 123R, to $2.4 million in 2006,
from $290,000 for the year ended 2005 and an increase in professional
services.
Restructuring Charge.
We did
not incur any restructuring charges in 2006. In the third quarter of
2005, we recorded a restructuring charge of approximately $2.2 million in
connection with the closing of our research center in Mason,
Ohio. The restructuring charge included amounts for wages, severance,
occupancy and other costs.
Purchase Amortization.
Purchase amortization decreased to $4.2 million in 2006, from $4.5
million in 2005. This decrease was due to the completion of amortization for
certain identifiable intangible assets during 2006.
Interest and Other Income,
Net.
Interest and other income, net increased to $6.8 million
in 2006, from $3.5 million in 2005. This increase was primarily a result of
higher total cash, cash equivalents and short-term investment balances and
increased interest rates during the year.
Income Tax Expense,
Net.
Income tax expense, net increased to $8.5 million in
2006, from $4.3 million in 2005, as a result of our increased
profitability.
Comparison
of Business Segment Results for Year Ended December 31, 2006 and Year Ended
December 31, 2005
Segment
Revenues
. U.S. revenues
increased to $146.1 million from $123.4 million for the years ended December 31,
2006 and 2005, respectively. This increase in U.S. revenue is due to further
penetration of our U.S. subscription-based information services and the
successful cross-selling into our customer base across our service platform in
existing markets, combined with a continued high renewal rate. International
revenues increased to $12.8 million from $11.0 million for the years ended
December 31, 2006 and 2005, respectively. This increase in international revenue
is principally a result of a combination of further penetration of our
subscription-based information services and the acquisition of
Grecam.
Segment EBITDA.
U.S. EBITDA
increased to $26.2 million from $19.4 million for the years ended December 31,
2006 and 2005, respectively. The increase in U.S. EBITDA was due to increased
revenues, partially offset by increased research costs as a result of our
geographic and retail expansion. International EBITDA remained consistent as a
loss of $315,000 and a loss of $316,000 for the years ended December 31, 2006
and 2005, respectively. This loss is due to our increased investment in
international expansion. International EBITDA also included a corporate
allocation of approximately $1.0 million for each of the years ended December
31, 2006 and 2005. The corporate allocation represents costs incurred for U.S.
employees involved in international management and expansion
activities.
Consolidated
Quarterly Results of Operations
The
following tables summarize our consolidated results of operations on a quarterly
basis for the indicated periods (in thousands, except per share amounts, and as
a percentage of total revenues):
|
2006
|
2007
|
|||||||||||||||||||||||||||||||
|
Mar.
31
|
Jun.
30
|
Sep.
30
|
Dec.
31
|
Mar.
31
|
Jun.
30
|
Sep.
30
|
Dec.
31
|
|||||||||||||||||||||||||
|
Revenues
|
$ | 37,274 | $ | 38,946 | $ | 40,571 | $ | 42,098 | $ | 44,831 | $ | 47,794 | $ | 49,340 | $ | 50,840 | ||||||||||||||||
|
Cost
of revenues
|
12,926 | 12,606 | 14,005 | 16,599 | 17,826 | 19,318 | 19,551 | 20,009 | ||||||||||||||||||||||||
|
Gross
margin
|
24,348 | 26,340 | 26,566 | 25,499 | 27,005 | 28,476 | 29,789 | 30,831 | ||||||||||||||||||||||||
|
Operating
expenses
|
22,500 | 23,942 | 20,730 | 21,500 | 25,569 | 28,230 | 25,952 | 18,498 | ||||||||||||||||||||||||
|
Income
from operations
|
1,848 | 2,398 | 5,836 | 3,999 | 1,436 | 246 | 3,837 | 12,333 | ||||||||||||||||||||||||
|
Interest
and other income, net
|
1,426 | 1,610 | 1,852 | 1,957 | 1,862 | 1,891 | 2,072 | 2,220 | ||||||||||||||||||||||||
|
Income
before income taxes
|
3,274 | 4,008 | 7,688 | 5,956 | 3,298 | 2,137 | 5,909 | 14,553 | ||||||||||||||||||||||||
|
Income
tax expense, net
|
1,414 | 1,704 | 2,990 | 2,408 | 1,484 | 962 | 2,659 | 4,841 | ||||||||||||||||||||||||
|
Net
income
|
$ | 1,860 | $ | 2,304 | $ | 4,698 | $ | 3,548 | $ | 1,814 | $ | 1,175 | $ | 3,250 | $ | 9,712 | ||||||||||||||||
|
Net
income per share
-
basic
|
$ | 0.10 | $ | 0.12 | $ | 0.25 | $ | 0.19 | $ | 0.10 | $ | 0.06 | $ | 0.17 | $ | 0.51 | ||||||||||||||||
|
Net
income per share
-
diluted
|
$ | 0.10 | $ | 0.12 | $ | 0.25 | $ | 0.18 | $ | 0.09 | $ | 0.06 | $ | 0.17 | $ | 0.50 | ||||||||||||||||
|
2006
|
2007
|
|||||||||||||||||||||||||||||||
| Mar. 31 |
Jun.
30
|
Sep.
30
|
Dec.
31
|
Mar.
31
|
Jun.
30
|
Sep.
30
|
Dec.
31
|
|||||||||||||||||||||||||
|
Revenues
|
100.0
|
%
|
100.0
|
%
|
100.0
|
%
|
100.0
|
%
|
100.0
|
%
|
100.0
|
%
|
100.0
|
%
|
100.0
|
%
|
||||||||||||||||
|
Cost
of revenues
|
34.7
|
32.4
|
34.5
|
39.4
|
39.8
|
40.4
|
39.6
|
39.4
|
||||||||||||||||||||||||
|
Gross
margin
|
65.3
|
|
67.6
|
65.5
|
60.6
|
60.2
|
59.6
|
60.4
|
60.6
|
|||||||||||||||||||||||
|
Operating
expenses
|
60.3
|
61.4
|
51.1
|
51.1
|
57.0
|
59.1
|
52.6
|
36.4
|
||||||||||||||||||||||||
|
Income
from operations
|
5.0
|
6.2
|
14.4
|
9.5
|
|
3.2
|
0.5
|
7.8
|
24.2
|
|||||||||||||||||||||||
|
Interest
and other income, net
|
3.8
|
4.1
|
4.6
|
4.6
|
4.1
|
4.0
|
4.2
|
4.4
|
||||||||||||||||||||||||
|
Income
before income taxes
|
8.8
|
10.3
|
19.0
|
14.1
|
7.3
|
4.5
|
12.0
|
28.6
|
||||||||||||||||||||||||
|
Income
tax expense, net
|
3.8
|
4.4
|
7.4
|
5.7
|
3.3
|
2.0
|
5.4
|
9.5
|
||||||||||||||||||||||||
|
Net
income
|
5.0
|
%
|
5.9
|
%
|
11.6
|
%
|
8.4
|
%
|
4.0%
|
2.5
|
% |
6.6
|
% |
19.1
|
% | |||||||||||||||||
Recent
Acquisitions
Grecam. S.A.S.
On December
21, 2006, CoStar Limited, a wholly owned subsidiary of CoStar, acquired Grecam
S.A.S. (“Grecam”), a provider of commercial property information and
market-level surveys, studies and consulting services located in Paris, France.
CoStar Limited acquired all of the outstanding capital stock of Grecam for
approximately $2.0 million in cash.
Propex.
On February 16, 2007,
CoStar Limited acquired Property Investment Exchange Limited (“Propex”), a
provider of web-based commercial property information and operator of an
electronic platform that facilitates the exchange of investment property in the
U.K. Propex’s suite of electronic platforms and listing websites give users
access to the U.K. commercial property investment and leasing markets. CoStar
Limited acquired all outstanding capital stock of Propex for approximately $22.0
million, consisting of cash, deferred consideration of approximately $2.9
million, and 21,526 shares of CoStar common stock.
Accounting Treatment
. These
acquisitions were accounted for using purchase accounting. The purchase price
for each acquisition was primarily allocated to acquired database technology,
customer base, trade names, and goodwill. The acquired database technology is
being amortized on a straight-line basis over four years. The acquired customer
base for the acquisitions, which consists of one distinct intangible asset for
each acquisition and is composed of acquired customer contracts and the related
customer relationships, is being amortized on a 125% declining
balance
method
over ten years. The Grecam and Propex acquired trade names are being amortized
on a straight-line basis over three years. Goodwill is not amortized, but is
subject to annual impairment tests. The results of operations of Grecam and
Propex have been consolidated with those of the Company since the respective
dates of the acquisitions and are not considered material to the consolidated
financial statements of the Company. Accordingly, pro forma financial
information has not been presented for either acquisition.
Liquidity
and Capital Resources
Our
principal sources of liquidity are cash, cash equivalents and short-term
investments. Total cash, cash equivalents and short-term investments were $187.4
million at December 31, 2007 compared to $158.1 million at December 31, 2006.
Cash, cash equivalents and short-term investments increased principally as a
result of EBITDA, interest income, and proceeds from exercise of stock options,
partially offset by purchases of property and equipment and other assets, cash
used for the purchase of Propex for approximately $16.7 million, capital
expenditures and changes in working capital accounts.
Net cash
provided by operating activities for the year ended December 31, 2007 was $51.8
million compared to $32.8 million for the year ended December 31, 2006. The
$19.0 million increase in net cash provided by operating activities is primarily
due to increased earnings before non-cash charges for taxes, stock based
compensation, provision for losses on accounts receivable, depreciation and
amortization, and the $7.6 million net gain from lease settlement, partially
offset by the net effect of changes in working capital.
Net cash
used in investing activities was $40.4 million for the year ended December 31,
2007 compared to $28.5 million for the year ended December 31, 2006. This $11.9
million increase in net cash used in investing activities was due to the
acquisition of Propex for approximately $16.7 million, net of acquired cash,
increased purchases of short-term investments and increased purchases of
property and equipment.
Net cash
provided by financing activities was $8.2
million for the year ended
December 31, 2007 compared to $5.6 million for the year ended December 31,
2006. The higher net cash produced by financing activities in 2007
compared to 2006 is due to an increase in proceeds from the exercise of stock
options.
Contractual Obligations
. The
following table summarizes our principal contractual obligations at December 31,
2007 and the effect such obligations are expected to have on our liquidity and
cash flows in future periods (in thousands):
|
Total
|
2008
|
2009-2010
|
2011-2012
|
2013
and thereafter
|
||||||||||||||||
|
Operating
leases
|
$ | 30,394 | $ | 8,478 | $ | 14,128 | $ | 6,995 | $ | 793 | ||||||||||
|
Purchase
obligations
(1)
|
2,556 | 2,478 | 78 | ¾ | ¾ | |||||||||||||||
|
Total
contractual principal cash obligations
|
$ | 32,950 | $ | 10,956 | $ | 14,206 | $ | 6,995 | $ | 793 | ||||||||||
(1)
Amounts do not
include current purchase obligations that may be renewed on the same or
different terms or terminated by us or a third party.
During
2007, we incurred capital expenditures of approximately $14.3 million, including
expenditures related to our expansion, support for our existing operations as
well as building photography. We expect to make capital expenditures in 2008 of
approximately $8.0 million to $9.0 million, including investments in
facilities, building photography, network equipment and workstations to support
ongoing operations.
To date,
we have grown in part by acquiring other companies and we may continue to make
acquisitions. Our acquisitions may vary in size and could be material to our
current operations. We expect to use cash, stock, debt or other means of funding
to make these acquisitions.
Based on
current plans, we believe that our available cash combined with positive cash
flow provided by operating activities should be sufficient to fund our
operations for at least the next 12 months.
As of
February 22, 2008, we had $33.1 million of short-term investments in studen loan
auction rate securities and $29.1 million of these securities failed to settle
at auctions. These investments are of high credit quality with AAA credit
ratings and are primarily securities supported by guarantees from the
Federal Family Education Loan Program (FFELP) of the U.S. Department of
Education. While we continue to earn interest on these investments,
the investments are not liquid in the short term. In the event we
need to immediately access these funds, we may have to sell these securities at
an amount below par value. Based on our ability to access our cash,
cash equivalents and other short-term investments and our expected
operating cash flows, we do not anticipate having to sell these investments
below par value in order to operate our business in the foreseeable
future.
At
December 31, 2007, we had net operating loss carryforwards for federal income
tax purposes of approximately $14.9 million, which we expect to use during
2008. As a result, we expect our cash payments for taxes to be
approximately $12.0 million during 2008 because our U.S. taxable income
will no longer be absorbed by carryforward losses.
Inflation
may affect the way we operate in the U.S. and abroad. In general, we believe
that over time we are able to increase the prices of our services to counteract
the majority of the inflationary effects of increasing costs. We do
not believe the impact of inflation has significantly affected our operations,
and we do not anticipate that inflation will have a material impact on our
operations in 2008.
Recent
Accounting Pronouncements
In June
2006, the Financial Accounting Standards Board (“FASB”) issued FASB
Interpretation No. 48 “
Accounting for Uncertainty in Income
Taxes – an interpretation of FASB Statement No. 109
” (“FIN 48”), which
became effective for our company as of January 1, 2007. FIN 48 addresses the
determination of how tax benefits claimed or expected to be claimed on a tax
return should be recorded in the financial statements. Under FIN 48, we must
recognize the tax benefit from an uncertain tax position only if it is
more-likely-than-not that the tax position will be sustained upon examination by
the taxing authorities, based on the technical merits of the position. The tax
benefits recognized in the financial statements from such a position are
measured based on the largest benefit that has a greater than fifty percent
likelihood of being realized upon ultimate resolution. Our reassessment of our
tax positions in accordance with FIN 48 did not have a material impact on our
results of operations and financial position.
In
September 2006, the FASB issued SFAS No. 157, “
Fair Value Measurements
”
(“SFAS 157”), which defines fair value, establishes a framework for measuring
fair value in accordance with GAAP and expands disclosures about fair value
measurements. SFAS 157 does not require any new fair value measurements
under GAAP and is effective for fiscal years beginning after November 15,
2007. The effects of adoption will be determined by the types of
instruments carried at fair value in our financial statements at the time of
adoption as well as the method utilized to determine their fair values prior to
adoption. The adoption of SFAS 157 is not expected to have a material
effect on our results of operations or financial position.
In
February 2007, the FASB issued SFAS No. 159, “
Fair Value Option for Financial
Assets and Financial Liabilities — Including an amendment of FASB Statement
No. 115
”
(“SFAS 159”), which
permits entities to choose to measure many financial instruments and certain
other items at fair value. SFAS 159 is effective for fiscal years beginning on
or after December 31, 2007. We have assessed the provisions of SFAS 159 and
determined that it is not expected to have a material effect on our results of
operations or financial position.
In
December 2007, the FASB issued SFAS No. 141 (Revised 2007), “
Business Combinations”
(“SFAS
141R”), which will change the accounting for any business combination we enter
into with an acquisition date after December 31, 2008. Under SFAS 141R, an
acquiring entity will be required to recognize all the assets acquired and
liabilities assumed in a transaction at the acquisition date fair value with
limited exceptions. SFAS 141R will change the accounting treatment and
disclosure for certain specific items in a business combination. SFAS 141R
will have an impact on accounting for business combinations once adopted but its
effect will be dependent upon the specifics of any business combination with an
acquisition date subsequent to the date of adoption.
In
December 2007, the FASB issued SFAS No. 160, “
Noncontrolling Interests in
Consolidated Financial Statements—An Amendment of ARB No. 51”
(“SFAS
160”), which establishes new accounting and reporting standards for the
non-controlling interest in a subsidiary and for the deconsolidation of a
subsidiary. SFAS 160 is effective for fiscal years beginning on or after
December 15, 2008. The adoption of SFAS 160 is not expected to have a
material impact on our results of operations or financial
position.
|
Item 7A.
|
Quantitative and Qualitative
Disclosures About Market
Risk
|
We
provide information services to the commercial real estate and related business
community in the U.S., the U.K. and France. Our functional currency for our
operations in the U.K. and France is the local currency. As such, fluctuations
in the British Pound and Euro may have an impact on our business, results of
operations and financial position. We currently do not use financial instruments
to hedge our exposure to exchange rate fluctuations with respect to our foreign
subsidiaries. We may seek to enter hedging transactions in the future to reduce
our exposure to exchange rate fluctuations, but we may be unable to enter into
hedging transactions successfully, on acceptable terms or at all. As
of December 31, 2007, accumulated other comprehensive income (loss) included a
gain from foreign currency translation adjustments of approximately $5.5
million.
We do not
have material exposure to market risks associated with changes in interest rates
related to cash equivalent securities held as of December 31, 2007.
Included
within our short-term investments are investments in AAA rated student loan
auction rate securities. These securities are primarily securities
supported by guarantees from the Federal Family Education Loan Program
(FFELP) of the U.S. Department of Education. As of February 22,
2008, auctions for $29.1 million of our investments in auction rate securities
failed. As a result, we may not be able to sell these investments at
par value until a future auction on these investments is successful. In the
event we need to immediately liquidate these investments, we may have to locate
a buyer outside the auction process, who may be unwilling to purchase the
investments at par, resulting in a loss. If the issuers are unable to
successfully close future auctions and their credit ratings deteriorate, we may
be required to adjust the carrying value of these investments through an
impairment charge. Based on our ability to access our cash, cash
equivalents and other short-term investments, and our expected operating cash
flows, we do not anticipate having to sell these securities below par value
in order to operate our business in the foreseeable future. See Note
2 to the consolidated financial statements for further discussion.
We have a
substantial amount of intangible assets. Although, as of December 31, 2007, we
believe our intangible assets will be recoverable. Changes in the
economy, the business in which we operate and our own relative performance could
change the assumptions used to evaluate intangible asset recoverability. In the
event that we determine that an asset has been impaired, we would recognize an
impairment charge for the excess amount by which the carrying amount of the
assets exceeds the fair value of the asset. We continue to monitor these
assumptions and their effect on the estimated recoverability of our intangible
assets.
|
Item
8.
|
Financial
Statements and Supplementary Data
|
Financial
Statements meeting the requirements of Regulation S-X are set forth beginning at
page F-1. Supplementary data is set forth in Management’s Discussion and
Analysis of Financial Condition and Results of Operations under the caption
“Consolidated Results of Operations.”
|
Item
9.
|
Changes
in and Disagreements with Accountants on Accounting and Financial
Disclosure
|
None.
|
Item
9A.
|
Controls
and Procedures
|
We
maintain disclosure controls and procedures that are designed to ensure that
information required to be disclosed in our reports filed or submitted under the
Exchange Act is recorded, processed, summarized and reported, within the time
periods specified in the Securities and Exchange Commission’s rules and forms,
and that such information is accumulated and communicated to our management,
including our Chief Executive Officer and Chief Financial Officer, as
appropriate, to allow for timely decisions regarding required disclosure. In
designing and evaluating the disclosure controls and procedures, management
recognized that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving the desired control
objectives, and management is required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures.
As of
December 31, 2007, we carried out an evaluation, under the supervision and with
the participation of our management, including our Chief Executive Officer and
our Chief Financial Officer, of the effectiveness of the design and operation of
our disclosure controls and procedures. Based on the foregoing, our Chief
Executive Officer and Chief Financial Officer concluded that our disclosure
controls and procedures were effective and were operating at the reasonable
assurance level.
There
have been no changes in our internal control over financial reporting during our
most recent fiscal quarter that have materially affected, or are reasonably
likely to materially affect, our internal control over financial
reporting.
Management’s
Report on Internal Control over Financial Reporting
Management
of CoStar is responsible for establishing and maintaining adequate internal
control over financial reporting and for the assessment of the effectiveness of
internal control over financial reporting. As defined by the Securities and
Exchange Commission, internal control over financial reporting is a process
designed by, or supervised by, the Company’s principal executive and principal
financial officers, to provide reasonable assurance regarding the reliability of
financial reporting and the preparation of financial statements in accordance
with generally accepted accounting principles.
The
Company’s internal control over financial reporting is supported by written
policies and procedures, that (1) pertain to the maintenance of records that, in
reasonable detail, accurately and fairly reflect the transactions and
dispositions of the Company’s assets; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting principles, and that
receipts and expenditures of the Company are being made only in accordance with
authorizations of the Company’s management and directors; and (3) provide
reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use or disposition of the Company’s assets that could have a
material effect on the financial statements.
Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
In
connection with the preparation of the Company's annual financial statements,
management of the Company has undertaken an assessment of the effectiveness of
the Company’s internal control over financial reporting as of December 31, 2007
based on criteria established in Internal Control – Integrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission (“the
COSO Framework”). Management's assessment included an evaluation of
the design of the Company's internal control over financial reporting and
testing of the operational effectiveness of the Company's internal control over
financial reporting.
Based on
this assessment, management did not identify any material weakness in the
Company's internal control, and management has concluded that the Company's
internal control over financial reporting was effective as of December 31,
2007.
Ernst
& Young, LLP, the independent registered public accounting firm that audited
the Company's financial statements included in this report, has issued an
attestation report on the effectiveness of internal control over financial
reporting, a copy of which is included in this Annual Report on Form
10-K.
|
Item
9B.
|
Other
Information.
|
None.
PART
III
|
Item
10.
|
Directors,
Executive Officers and Corporate
Governance
|
The
information required by this Item is incorporated by reference to our Proxy
Statement for our 2008 annual meeting of stockholders.
|
Item
11.
|
Executive
Compensation
|
The
information required by this Item is incorporated by reference to our Proxy
Statement for our 2008 annual meeting of stockholders.
|
Item
12.
|
Security
Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters
|
The
information required by this Item is incorporated by reference to our Proxy
Statement for our 2008 annual meeting of stockholders.
|
Item
13.
|
Certain
Relationships and Related Transactions, and Director
Independence
|
The
information required by this Item is incorporated by reference to our Proxy
Statement for our 2008 annual meeting of stockholders.
|
Item
14.
|
Principal
Accountant Fees and Services
|
The
information required by this Item is incorporated by reference to our Proxy
Statement for our 2008 annual meeting of stockholders.
PART
IV
|
Item
15.
|
Exhibits
and Financial Statement Schedules
|
(a)(1)
The following financial statements are filed as a part of this report: CoStar
Group, Inc. Consolidated Financial Statements.
(a)(2)
All schedules are omitted because they are not applicable or not required or
because the required information is incorporated herein by reference or included
in the financial statements or related notes included elsewhere in this
report.
(a)(3)
The documents required to be filed as exhibits to this Report under Item 601 of
Regulation S-K are listed in the Exhibit Index included elsewhere in this
report, which list is incorporated herein by reference.
SIGNATURES
Pursuant
to the requirements of Section 13 of the Securities Act of 1934, as amended, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Bethesda, State of
Maryland, on the 28
th
day of
February 2008.
|
COSTAR
GROUP, INC.
|
||
|
By:
|
/S/
Andrew C. Florance
|
|
|
Andrew
C. Florance
|
||
|
President
and Chief Executive Officer
|
||
KNOW ALL
PERSONS BY THESE PRESENTS, that each individual whose signature appears below
constitutes and appoints Andrew C. Florance and Brian J. Radecki, and each of
them individually, as their true and lawful attorneys-in-fact and agents, with
full power of substitution, for him and in his name, place and stead, in any and
all capacities, to sign any and all amendments to this report, and to file the
same, with all exhibits thereto and to all documents in connection therewith,
with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite and necessary to be done in
connection therewith, as fully to all intents and purposes as he might or could
do in person, herein by ratifying and confirming all that said attorneys-in-fact
and agents or any of them, or his or their substitute or substitutes, may
lawfully do or cause to be done by virtue hereof.
Pursuant
to the requirements of the Securities Act of 1934, as amended, this report has
been signed by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
|
Signature
|
Capacity
|
Date
|
||
|
/S/
Michael R. Klein
|
Chairman
of the Board
|
February
28, 2008
|
||
|
Michael
R. Klein
|
||||
|
/S/
Andrew C. Florance
|
Chief
Executive Officer and
|
February
28, 2008
|
||
|
Andrew
C. Florance
|
President
and a Director
|
|||
|
(Principal
Executive Officer)
|
||||
|
/S/
Brian J. Radecki
|
Chief
Financial Officer
|
February
28, 2008
|
||
|
Brian
J. Radecki
|
(Principal
Financial and Accounting Officer)
|
|||
|
/S/
David Bonderman
|
Director
|
February
22, 2008
|
||
|
David
Bonderman
|
||||
|
/S/
Warren H. Haber
|
Director
|
February
25, 2008
|
||
|
Warren
H. Haber
|
||||
|
/S/
Josiah O. Low, III
|
Director
|
February
23, 2008
|
||
|
Josiah
O. Low, III
|
||||
|
/S/
Christopher Nassetta
|
Director
|
February
28, 2008
|
||
|
Christopher
Nassetta
|
||||
|
/S/
Catherine B. Reynolds
|
Director
|
February
28, 2008
|
||
|
Catherine
B. Reynolds
|
INDEX
TO EXHIBITS
|
Exhibit
No.
|
Description
|
|
|
2.1
|
Offer
Document by CoStar Limited for the share capital of Focus Information
Limited (Incorporated by reference to Exhibit 2.1 to Amendment No. 2 to
the Registration Statement on Form S-3 of the Registrant (Reg. No.
333-106769) filed with the Commission on August 14,
2003).
|
|
|
3.1
|
Restated
Certificate of Incorporation (Incorporated by reference to Exhibit 3.1 the
Registration Statement on Form S-1 of the Registrant (Reg. No. 333-47953)
filed with the Commission on March 13, 1998 (the “1998 Form
S-1”)).
|
|
|
3.2
|
Certificate
of Amendment of Restated Certificate of Incorporation (Incorporated by
reference to Exhibit 3.1 to the Registrant’s Report on Form 10-Q for the
quarter ended June 30, 1999).
|
|
|
3.3
|
Amended
and Restated By-Laws (Incorporated by reference to Exhibit 3.2 to the 1998
Form S-1).
|
|
|
4.1
|
Specimen
Common Stock Certificate (Incorporated by reference to Exhibit 4.1 to the
Registrant’s Report on Form 10-K for the year ended December 31,
1999).
|
|
|
*10.1
|
CoStar
Group, Inc. 1998 Stock Incentive Plan, as amended (Incorporated by
reference to Exhibit 10.1 to the Registrant’s Report on Form 10-Q for the
quarter ended September 30, 2005).
|
|
|
*10.2
|
CoStar
Group, Inc. 2007 Stock Incentive Plan, as amended (filed
herewith).
|
|
|
*10.3
|
CoStar
Group, Inc. 2007 Stock Incentive Plan French Sub-Plan (filed
herewith).
|
|
|
*10.4
|
Form
of Stock Option Agreement between the Registrant and certain of its
officers, directors and employees (Incorporated by reference to Exhibit
10.8 to the Registrant’s Report on Form 10-K for the year ended December
31, 2004).
|
|
|
*10.5
|
Form
of Stock Option Agreement between the Registrant and Andrew C. Florance
(Incorporated by reference to Exhibit 10.8.1 to the Registrant’s Report on
Form 10-K for the year ended December 31, 2004).
|
|
|
*10.6
|
Form
of Restricted Stock Agreement between the Registrant and certain of its
officers, directors and employees (Incorporated by reference to Exhibit
10.9 to the Registrant’s Report on Form 10-K for the year ended December
31, 2004).
|
|
|
*10.7
|
Form
of 2007 Plan Restricted Stock Grant Agreement between the Registrant and
certain of its officers, directors and employees (Incorporated by
reference to Exhibit 99.1 to the Registrant’s Report on Form 8-K filed
June 22, 2007).
|
|
|
*10.8
|
Form
of 2007 Plan Incentive Stock Option Grant Agreement between the Registrant
and certain of its officers, directors and employees (Incorporated by
reference to Exhibit 99.2 to the Registrant’s Report on Form 8-K filed
June 22, 2007).
|
|
|
*10.9
|
Form
of 2007 Plan Nonqualified Stock Option Grant Agreement between the
Registrant and certain of its officers, directors and employees
(Incorporated by reference to Exhibit 99.3 to the Registrant’s Report on
Form 8-K filed June 22, 2007).
|
|
|
*10.10
|
Form
of 2007 Plan French Sub-Plan Restricted Stock Agreement between the
Registrant and certain of its employees (filed
herewith).
|
|
|
*10.11
|
CoStar
Group, Inc. Employee Stock Purchase Plan (Incorporated by reference to
Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the
quarter ended June 30, 2006).
|
|
|
*10.12
|
Employment
Agreement for Andrew C. Florance (Incorporated by reference to Exhibit
10.2 to Amendment No. 1 to the Registration Statement on Form S-1 of the
Registrant (Reg. No. 333-47953) filed with the Commission on April 27,
1998).
|
|
|
*10.13
|
Employment
Agreement, dated as of November 29, 2004, between Christopher Tully and
CoStar Realty Information, Inc. (Incorporated by reference to Exhibit 10.6
to the Registrant’s Report on Form 10-K for the year ended December 31,
2004).
|
INDEX
TO EXHIBITS
¾
(Continued)
|
Exhibit
No.
|
Description
|
|
|
*10.14
|
Executive
Service Contract dated February 16, 2007, between Property Investment
Exchange Limited and Paul Marples (filed herewith).
|
|
|
*10.15
|
Form
of Indemnification Agreement between the Registrant and each of its
officers and directors (Incorporated by reference to Exhibit 10.1 to the
Registrant’s Report on Form 10-Q for the quarter ended March 31,
2004).
|
|
|
10.16
|
Office
Lease, dated August 12, 1999, between CoStar Realty Information, Inc. and
Newlands Building Ventures, LLC (Incorporated by reference to Exhibit 10.2
to the Registrant’s Report on Form 10-Q for the quarter ended September
30, 1999).
|
|
|
10.17
|
Office
Sublease, dated June 14, 2002, between CoStar Realty Information, Inc.,
CoStar Group, Inc. and Gateway, Inc. (Incorporated by reference to Exhibit
10.2 to the Registrant’s Report on Form 10-Q for the quarter
ended June 30, 2002).
|
|
|
10.18
|
Exercise
of option to extend lease term and sublease amendment, dated February 22,
2007 between Gateway, Inc. and CoStar Realty Information, Inc. and CoStar
Group, Inc. (Incorporated by reference to Exhibit 10.11 to the
Registrant’s Report on Form 10-K for the year ended December 31,
2006).
|
|
|
10.19
|
Addendum
No. 3 to Office Lease, dated as of May 12, 2004, between Newlands Building
Venture, LLC, and CoStar Realty Information, Inc. (Incorporated by
reference to Exhibit 10.1 to the Registrant’s Report on Form 10-Q for the
quarter ended June 30, 2004).
|
|
|
10.20
|
Office
Lease, dated as of February 23, 2005, between CoStar Realty Information,
Inc. and Crestpointe III, LLC. (Incorporated by reference to Exhibit 10.13
to the Registrant’s Report on Form 10-K for the year ended December 31,
2004).
|
|
|
10.21
|
Office
Lease Agreement, dated March 16, 2007, between Corporate Place I Business
Trust and CoStar Group, Inc. (Incorporated by reference to Exhibit 10.2 to
the Registrant’s Report on Form 10-Q for the quarter ended March 31,
2007).
|
|
|
10.22
|
Agreement
for Lease among Nokia UK Limited, Focus Information Limited and CoStar
Group, Inc., dated November 23, 2007 (filed herewith).
|
|
|
10.23
|
Contract
for Sale and Purchase between Focus Information Limited and Trafigura
Limited, dated September 14, 2007 (Incorporated by reference to Exhibit
10.1 to the Registrant’s Report on Form 10-Q for the quarter ended
September 30, 2007).
|
|
|
21.1
|
Subsidiaries
of the Registrant (filed herewith).
|
|
|
23.1
|
Consent
of Ernst & Young LLP, Independent Registered Public Accounting Firm
(filed herewith).
|
|
|
24.1
|
Powers
of Attorney (Included in the Signature Pages to the
Report).
|
|
|
31.1
|
Certification
of Principal Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (filed herewith).
|
|
|
31.2
|
Certification
of Principal Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (filed herewith).
|
|
|
32.1
|
Certification
of Principal Executive Officer pursuant to 18 U.S.C. Sec. 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed
herewith).
|
|
|
32.2
|
Certification
of Principal Financial Officer pursuant to 18 U.S.C. Sec. 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed
herewith).
|
|
*
Management Contract or Compensatory Plan or Arrangement.
COSTAR
GROUP, INC.
INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS
|
Reports
of Independent Registered Public Accounting
Firm
|
F-2
|
|
Consolidated
Statements of Operations for the years ended December 31, 2005, 2006 and
2007
|
F-4
|
|
Consolidated
Balance Sheets as of December 31, 2006 and
2007
|
F-5
|
|
Consolidated
Statements of Stockholders’ Equity for the years ended December 31, 2005,
2006 and 2007
|
F-6
|
|
Consolidated
Statements of Cash Flows for the years ended December 31, 2005, 2006 and
2007
|
F-7
|
|
Notes
to Consolidated Financial
Statements
|
F-8
|
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board
of Directors and Shareholders of CoStar Group, Inc.
We have
audited the accompanying consolidated balance sheets of CoStar Group, Inc. as of
December 31, 2007 and 2006, and the related consolidated statements of
operations, stockholders’ equity and cash flows for each of the three years in
the period ended December 31, 2007. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our
opinion, the financial statements referred to above present fairly, in all
material respects, the consolidated financial position of CoStar Group, Inc. at
December 31, 2007 and 2006, and the consolidated results of its operations and
its cash flows for each of the three years in the period ended December 31,
2007, in conformity with U.S. generally accepted accounting
principles.
As
discussed in Note 2 to the consolidated financial statements, under the heading
Stock-Based Compensation, the Company adopted Statement of Financial Accounting
Standards No. 123(R), “Share-Based Payment”, effective January 1,
2006.
As also
discussed in Note 7 to the consolidated financial statements, under the heading
Income Taxes, the Company adopted FASB Interpretation No. 48 “
Accounting for Uncertainty in Income
Taxes- an interpretation of FASB Statement No. 109
” effective January 1,
2007.
We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), CoStar's internal control over financial
reporting as of December 31, 2007, based on criteria established in Internal
Control Integrated Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission and our report dated February 22, 2008 expressed an
unqualified opinion thereon.
/s/ Ernst
& Young LLP
McLean,
Virginia
February 22,
2008
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board
of Directors and Shareholders of CoStar Group, Inc.
We have
audited CoStar Group, Inc.’s (“CoStar”) internal control over financial
reporting as of December 31, 2007, based on criteria established in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission (the COSO criteria). CoStar’s management
is responsible for maintaining effective internal control over financial
reporting and for its assessment of the effectiveness of internal control over
financial reporting included in the accompanying Management’s Report on Internal
Control over Financial Reporting. Our responsibility is to express an opinion on
the company’s internal control over financial reporting based on our
audit.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.
A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial
statements.
Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation
of effectiveness to future periods are subject to the risk that controls may
become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.
In our
opinion, CoStar maintained, in all material respects, effective internal control
over financial reporting as of December 31, 2007, based on the COSO
criteria.
We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets as of December
31, 2007 and 2006 and the related consolidated statements of operations,
stockholders’ equity and cash flows for each of the three years in the period
ended December 31, 2007 of CoStar Group, Inc. and our report dated February 22,
2008 expressed an unqualified opinion thereon.
/s/ Ernst
& Young LLP
McLean,
Virginia
February
22, 2008
COSTAR
GROUP, INC.
CONSOLIDATED
STATEMENTS OF OPERATIONS
(in
thousands, except per share data)
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Revenues
|
$ | 134,338 | $ | 158,889 | $ | 192,805 | ||||||
|
Cost
of revenues
|
44,286 | 56,136 | 76,704 | |||||||||
|
Gross
margin
|
90,052 | 102,753 | 116,101 | |||||||||
|
Operating
expenses:
|
||||||||||||
|
Selling
and marketing
|
38,351 | 41,774 | 51,777 | |||||||||
|
Software
development
|
10,123 | 12,008 | 12,453 | |||||||||
|
General
and administrative
|
27,550 | 30,707 | 36,569 | |||||||||
|
Restructuring
charge
|
2,217 | ¾ | ¾ | |||||||||
|
Gain
on lease settlement, net
|
¾ | ¾ | (7,613 | ) | ||||||||
|
Purchase
amortization
|
4,469 | 4,183 | 5,063 | |||||||||
| 82,710 | 88,672 | 98,249 | ||||||||||
|
Income
from operations
|
7,342 | 14,081 | 17,852 | |||||||||
|
Interest
and other income, net
|
3,455 | 6,845 | 8,045 | |||||||||
|
Income
before income taxes
|
10,797 | 20,926 | 25,897 | |||||||||
|
Income
tax expense, net
|
4,340 | 8,516 | 9,946 | |||||||||
|
Net
income
|
$ | 6,457 | $ | 12,410 | $ | 15,951 | ||||||
|
Net
income per share
¾
basic
|
$ | 0.35 | $ | 0.66 | $ | 0.84 | ||||||
|
Net
income per share
¾
diluted
|
$ | 0.34 | $ | 0.65 | $ | 0.82 | ||||||
|
Weighted
average outstanding shares
¾
basic
|
18,453 | 18,751 | 19,044 | |||||||||
|
Weighted
average outstanding shares
¾
diluted
|
19,007 | 19,165 | 19,404 | |||||||||
See
accompanying notes.
COSTAR
GROUP, INC.
CONSOLIDATED
BALANCE SHEETS
(in
thousands except per share data)
|
December
31,
|
||||||||
|
2006
|
2007
|
|||||||
|
ASSETS
|
||||||||
|
Current
assets:
|
||||||||
|
Cash
and cash equivalents
|
$ | 38,159 | $ | 57,785 | ||||
|
Short-term
investments
|
119,989 | 129,641 | ||||||
|
Accounts
receivable, less allowance for doubtful accounts of approximately $1,966
and $2,959 as of December 31, 2006 and 2007, respectively
|
9,202 | 10,875 | ||||||
|
Deferred
income taxes, net
|
7,904 | 2,716 | ||||||
|
Prepaid
expenses and other current assets
|
3,497 | 4,661 | ||||||
|
Total
current
assets
|
178,751 | 205,678 | ||||||
|
Deferred
income taxes,
net
|
6,973 | 2,233 | ||||||
|
Property
and equipment,
net
|
18,407 | 24,045 | ||||||
|
Goodwill,
net
|
46,497 | 61,854 | ||||||
|
Intangibles
and other assets,
net
|
23,172 | 25,711 | ||||||
|
Deposits
and other
assets
|
1,637 | 2,322 | ||||||
|
Total
assets
|
$ | 275,437 | $ | 321,843 | ||||
|
LIABILITIES
AND STOCKHOLDERS’ EQUITY
|
||||||||
|
Current
liabilities:
|
||||||||
|
Accounts
payable
|
$ | 1,878 | $ | 3,299 | ||||
|
Accrued
wages and
commissions
|
6,018 | 7,489 | ||||||
|
Accrued
expenses
|
6,098 | 15,696 | ||||||
|
Deferred
revenue
|
8,817 | 10,374 | ||||||
|
Deferred
rent
|
1,334 | 1,379 | ||||||
|
Total
current
liabilities
|
24,145 | 38,237 | ||||||
|
Deferred
income taxes,
net
|
1,182 | 1,801 | ||||||
|
Commitments
and Contingencies
|
¾ | ¾ | ||||||
|
Stockholders’
equity:
|
||||||||
|
Preferred
stock, $0.01 par value; 2,000 shares authorized; none
outstanding
|
¾ | ¾ | ||||||
|
Common
stock, $0.01 par value; 30,000 shares authorized; 19,081 and 19,474 issued
and outstanding as of December 31, 2006 and 2007,
respectively
|
191 | 195 | ||||||
|
Additional
paid-in capital
|
302,936 | 317,570 | ||||||
|
Accumulated
other comprehensive income
|
4,520 | 5,626 | ||||||
|
Accumulated
deficit
|
(57,537 | ) | (41,586 | ) | ||||
|
Total
stockholders’
equity
|
250,110 | 281,805 | ||||||
|
Total
liabilities and stockholders’
equity
|
$ | 275,437 | $ | 321,843 | ||||
See
accompanying notes.
COSTAR
GROUP, INC.
CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY
(in
thousands)
|
Additional
|
Accumulated
Other
|
Total
|
||||||||||||||||||||||||||||||
|
Comprehensive
Income
|
Common
Stock
|
Paid-In
Capital
|
Unearned
Compensation
|
Comprehensive
Income
|
Accumulated
Deficit
|
Stockholders’
Equity
|
||||||||||||||||||||||||||
|
Shares
|
Amount
|
|||||||||||||||||||||||||||||||
|
Balance
at December 31, 2004
|
18,303 | $ | 183 | $ | 283,206 | $ | ¾ | $ | 3,959 | $ | (76,404 | ) | $ | 210,944 | ||||||||||||||||||
|
Net
income
|
6,457 | ¾ | ¾ | ¾ | ¾ | ¾ | 6,457 | 6,457 | ||||||||||||||||||||||||
|
Foreign
currency translation adjustment
|
(2,431 | ) | ¾ | ¾ | ¾ | ¾ | (2,431 | ) | ¾ | (2,431 | ) | |||||||||||||||||||||
|
Net
unrealized loss on short-term investments
|
(180 | ) | ¾ | ¾ | ¾ | ¾ | (180 | ) | ¾ | (180 | ) | |||||||||||||||||||||
|
Comprehensive
income
|
$ | 3,846 | ||||||||||||||||||||||||||||||
|
Exercise
of stock options
|
299 | 3 | 7,409 | ¾ | ¾ | ¾ | 7,412 | |||||||||||||||||||||||||
|
Deferred
tax benefit for exercised stock options
|
¾ | ¾ | 2,215 | ¾ | ¾ | ¾ | 2,215 | |||||||||||||||||||||||||
|
Restricted
stock
|
72 | 1 | 3,090 | (3,091 | ) | ¾ | ¾ | ¾ | ||||||||||||||||||||||||
|
Amortization
of unearned compensation
|
¾ | ¾ | ¾ | 379 | ¾ | ¾ | 379 | |||||||||||||||||||||||||
|
Balance
at December 31, 2005
|
18,674 | 187 | 295,920 | (2,712 | ) | 1,348 | (69,947 | ) | 224,796 | |||||||||||||||||||||||
|
Net
income
|
12,410 | ¾ | ¾ | ¾ | ¾ | 12,410 | 12,410 | |||||||||||||||||||||||||
|
Foreign
currency translation adjustment
|
2,950 | ¾ | ¾ | ¾ | ¾ | 2,950 | ¾ | 2,950 | ||||||||||||||||||||||||
|
Net
unrealized gain on short-term investments
|
222 | ¾ | ¾ | ¾ | ¾ | 222 | ¾ | 222 | ||||||||||||||||||||||||
|
Comprehensive
income
|
$ | 15,582 | ||||||||||||||||||||||||||||||
|
Exercise
of stock options
|
270 | 3 | 6,566 | ¾ | ¾ | ¾ | 6,569 | |||||||||||||||||||||||||
|
Swaps
of shares for exercise
|
(20 | ) | (1 | ) | (938 | ) | ¾ | ¾ | ¾ | (939 | ) | |||||||||||||||||||||
|
Restricted
stock grants
|
165 | 2 | 34 | ¾ | ¾ | ¾ | 36 | |||||||||||||||||||||||||
|
Restricted
stock grants surrendered
|
(12 | ) | ¾ | (234 | ) | ¾ | ¾ | ¾ | (234 | ) | ||||||||||||||||||||||
|
Stock
compensation expense, net of forfeitures
|
¾ | ¾ | 4,094 | ¾ | ¾ | ¾ | 4,094 | |||||||||||||||||||||||||
|
Employee
Stock Purchase Plan
|
4 | ¾ | 206 | ¾ | ¾ | ¾ | 206 | |||||||||||||||||||||||||
|
Impact
upon adoption of SFAS 123R
|
¾ | ¾ | (2,712 | ) | 2,712 | ¾ | ¾ | ¾ | ||||||||||||||||||||||||
|
Balance
at December 31, 2006
|
19,081 | 191 | 302,936 | ¾ | 4,520 | (57,537 | ) | 250,110 | ||||||||||||||||||||||||
|
FIN
48 Adjustment
|
¾ | ¾ | 26 | ¾ | ¾ | ¾ | 26 | |||||||||||||||||||||||||
|
Balance
at January 1, 2007
|
19,081 | 191 | 302,962 | ¾ | 4,520 | (57,537 | ) | 250,136 | ||||||||||||||||||||||||
|
Net
income
|
15,951 | ¾ | ¾ | ¾ | ¾ | ¾ | 15,951 | 15,951 | ||||||||||||||||||||||||
|
Foreign
currency translation adjustment
|
873 | ¾ | ¾ | ¾ | ¾ | 873 | ¾ | 873 | ||||||||||||||||||||||||
|
Net
unrealized gain on short-term investments
|
233 | ¾ | ¾ | ¾ | ¾ | 233 | ¾ | 233 | ||||||||||||||||||||||||
|
Comprehensive
income
|
$ | 17,057 | ||||||||||||||||||||||||||||||
|
Exercise
of stock options
|
289 | 3 | 8,127 | ¾ | ¾ | ¾ | 8,130 | |||||||||||||||||||||||||
|
Restricted
stock grants
|
131 | 1 | (1 | ) | ¾ | ¾ | ¾ | ¾ | ||||||||||||||||||||||||
|
Restricted
stock grants surrendered
|
(58 | ) | ¾ | (635 | ) | ¾ | ¾ | ¾ | (635 | ) | ||||||||||||||||||||||
|
Consideration
for Propex
|
22 | ¾ | 1,010 | ¾ | ¾ | ¾ | 1,010 | |||||||||||||||||||||||||
|
Stock
compensation expense, net of forfeitures
|
¾ | ¾ | 5,440 | ¾ | ¾ | ¾ | 5, 440 | |||||||||||||||||||||||||
|
Employee
Stock Purchase Plan
|
9 | ¾ | 407 | ¾ | ¾ | ¾ | 407 | |||||||||||||||||||||||||
|
Excess
tax benefit for exercised stock options
|
¾ | ¾ | 260 | ¾ | ¾ | ¾ | 260 | |||||||||||||||||||||||||
|
Balance
at December 31, 2007
|
19,474 | $ | 195 | $ | 317,570 | $ | ¾ | $ | 5,626 | $ | (41,586 | ) | $ | 281,805 | ||||||||||||||||||
See
accompanying notes
.
COSTAR
GROUP, INC.
CONSOLIDATED
STATEMENTS OF CASH FLOWS
(in
thousands)
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Operating
activities:
|
||||||||||||
|
Net
income
|
$ | 6,457 | $ | 12,410 | $ | 15,951 | ||||||
|
Adjustments
to reconcile net income to net cash provided by operating
activities:
|
||||||||||||
|
Depreciation
|
5,725 | 5,734 | 7,778 | |||||||||
|
Amortization
|
5,989 | 6,076 | 8,369 | |||||||||
|
Deferred
income tax expense, net
|
4,245 | 7,658 | 9,946 | |||||||||
|
Provision
for losses on accounts receivable
|
979 | 1,813 | 2,464 | |||||||||
|
Stock-based
compensation expense
|
379 | 4,155 | 5,440 | |||||||||
|
Changes
in operating assets and liabilities, net of acquisitions:
|
||||||||||||
|
Accounts
receivable
|
(2,652 | ) | (5,080 | ) | (2,944 | ) | ||||||
|
Prepaid
expenses and other current assets
|
(330 | ) | (1,205 | ) | (755 | ) | ||||||
|
Deposits
|
(317 | ) | (246 | ) | (670 | ) | ||||||
|
Accounts
payable and accrued expenses
|
1,683 | 688 | 6,721 | |||||||||
|
Deferred
revenue
|
761 | 748 | (501 | ) | ||||||||
|
Net
cash provided by operating activities
|
22,919 | 32,751 | 51,799 | |||||||||
|
Investing
activities:
|
||||||||||||
|
Purchases
of short-term investments
|
(250,272 | ) | (109,040 | ) | (116,676 | ) | ||||||
|
Sales
of short-term investments
|
224,234 | 95,393 | 107,286 | |||||||||
|
Purchases
of property and equipment and other assets
|
(8,393 | ) | (12,959 | ) | (14,271 | ) | ||||||
|
Acquisitions,
net of cash acquired
|
(4,301 | ) | (1,887 | ) | (16,737 | ) | ||||||
|
Net
cash used in investing activities
|
(38,732 | ) | (28,493 | ) | (40,398 | ) | ||||||
|
Financing
activities:
|
||||||||||||
|
Proceeds
from exercise of stock options
|
7,412 | 5,582 | 8,161 | |||||||||
|
Net
cash provided by financing activities
|
7,412 | 5,582 | 8,161 | |||||||||
|
Effect
of foreign currency exchange rates on cash and cash
equivalents
|
(341 | ) | 254 | 64 | ||||||||
|
Net
(decrease) increase in cash and cash equivalents
|
(8,742 | ) | 10,094 | 19,626 | ||||||||
|
Cash
and cash equivalents at beginning of year
|
36,807 | 28,065 | 38,159 | |||||||||
|
Cash
and cash equivalents at end of year
|
$ | 28,065 | $ | 38,159 | $ | 57,785 | ||||||
|
Supplemental
disclosure of non-cash transactions:
|
||||||||||||
|
Deferred
tax benefit for exercised stock options
|
$ | 2,215 | $ | ¾ | $ | ¾ | ||||||
See
accompanying notes.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
December
31, 2007
1.
ORGANIZATION
CoStar
Group, Inc. (the “Company”) has created a comprehensive, proprietary database of
commercial real estate information covering the United States, as well as parts
of the United Kingdom and France. Based on its unique database, the Company
provides information services to the commercial real estate and related business
community and operates within two segments, U.S. and International. The
Company’s information services are typically distributed to its clients under
subscription-based license agreements, which typically have a minimum term of
one year and renew automatically.
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis
of Presentation
The
consolidated financial statements include the accounts of the Company and its
wholly owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation. Accounting policies are
consistent for each operating segment.
Use
of Estimates
The
preparation of financial statements in conformity with generally accepted
accounting principles (“GAAP”) in the United States requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
Revenue
Recognition
The
Company primarily derives revenues from providing access to its proprietary
database of commercial real estate information. The Company generally charges a
fixed monthly amount for its subscription-based services. Subscription contract
rates are based on the number of sites, number of users, organization size, the
client’s business focus and the number of services to which a client subscribes.
Subscription-based license agreements typically have a minimum term of one year
and renew automatically.
Revenues
from subscription-based services are recognized on a straight-line basis over
the term of the agreement. Deferred revenue results from advance cash receipts
from customers or amounts billed in advance to customers from the sales of
subscription licenses and is recognized over the term of the license
agreement.
Cost
of Revenues
Cost of
revenues principally consists of salaries and related expenses for the Company’s
researchers who collect and analyze the commercial real estate data that is the
basis for the Company’s information services. Additionally, cost of revenues
includes the cost of data from third-party data sources, which is expensed as
incurred, and the amortization of database technology.
Significant
Customers
No single
customer accounted for more than 5% of the Company’s revenues for each of the
years ended December 31, 2005, 2006 and 2007.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Foreign
Currency Translation
The
Company’s functional currency in its foreign locations is the local
currency. Assets and liabilities are translated into U.S. dollars as
of the balance sheet date. Revenue, expenses, gains and losses are
translated at the average exchange rates in effect during each
period. Gains and losses resulting from translation are included in
accumulated other comprehensive income. Net gains or losses resulting from
foreign currency exchange transactions are included in the consolidated
statements of operations. The Company had an increase in comprehensive income
from the translation of its foreign subsidiary’s assets and liabilities into
U.S. dollars of approximately $3.0 million and $873,000
for the years ended
December 31, 2006 and 2007, respectively. There were no material gains or losses
from foreign currency exchange transactions for the years ended December 31,
2006 and 2007.
Comprehensive
Income
For the
years ended December 31, 2005, 2006 and 2007, total comprehensive income was
approximately $3.8 million, $15.6 million and $17.1 million, respectively. As of
December 31, 2007, accumulated other comprehensive income included foreign
currency translation adjustments of approximately $5.5 million and unrealized
gains on short-term investments of approximately $86,000.
Advertising
Costs
The
Company expenses advertising costs as incurred. Advertising expense were
approximately $200,000, $4.0 million and $2.3 million for the years ended
December 31, 2005, 2006 and 2007, respectively.
Income
Taxes
The
Company provides for income taxes under the provisions of Statement of Financial
Accounting Standards No. 109 “
Accounting for Income Taxes”
(“SFAS No. 109”). Deferred income taxes result from temporary differences
between the tax basis of assets and liabilities and the basis reported in the
Company’s consolidated financial statements. Deferred tax liabilities and assets
are determined based on the difference between the financial statement and the
tax basis of assets and liabilities using enacted rates expected to be in effect
during the year in which the differences reverse. Valuation allowances are
provided against assets, including net operating losses, if it is anticipated
that some or all of the asset may not be realized through future taxable
earnings or implementation of tax planning strategies.
Net
Income Per Share
Net
income per share is computed by dividing net income by the weighted average
number of common shares outstanding during the period on a basic and diluted
basis. The Company’s potentially dilutive securities include stock options and
restricted stock. Diluted net income per share considers the impact of
potentially dilutive securities except in periods in which there is a net loss,
as the inclusion of the potential common shares would have an anti-dilutive
effect.
Stock-Based
Compensation
On
January 1, 2006, the Company adopted Statement of Financial Accounting Standards
No. 123R
“Share Based
Payment”
(“SFAS 123R”), which addresses the accounting for share-based
payment transactions in which the Company receives employee services in exchange
for equity instruments. The statement eliminates the Company's ability to
account for share-based compensation transactions as prescribed by Accounting
Principles Board Opinion No. 25,
“Accounting for Stock Issued to
Employees”
(“APB 25”), and generally requires that equity
instruments
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Stock-Based Compensation
¾
(Continued)
issued in
such transactions be accounted for using a fair-value based method and the fair
value of such equity instruments be recognized as expense in the consolidated
statements of operations.
Under the
fair-value recognition provisions of SFAS 123R, stock-based compensation cost is
estimated at the grant date based on the fair value of the awards expected to
vest and recognized as expense ratably over the requisite service period of the
award. The Company recognizes compensation costs for awards with
graded vesting on a straight-line basis.
The
Company adopted SFAS 123R using the modified prospective method, which requires
the application of the accounting standard as of January 1, 2006. In accordance
with the modified prospective method, the consolidated financial statements for
prior periods have not been restated to reflect, and do not include, the impact
of SFAS 123R. SFAS 123R requires forfeitures to be estimated at the time of
grant and revised, if necessary, in subsequent periods if actual forfeitures
differ from those estimates. In the pro forma information required under SFAS
123 for the periods prior to 2006, the Company accounted for forfeitures as they
occurred. Upon adoption of SFAS 123R, the Company recorded a charge of
approximately $35,000 representing the cumulative effect of a change in
accounting principle. This amount was recorded in general and administrative
expenses in the consolidated statements of operations for the year ended
December 31, 2006.
The
impact of the adoption of SFAS 123R on the Company's results of operations for
the year ended December 31, 2006, was as follows (in thousands, except per share
data):
|
Income
from
operations
|
$ | (2,860 | ) | |
|
Income
before
taxes
|
$ | (2,860 | ) | |
|
Net
income
|
$ | (1,784 | ) | |
|
Basic
earnings per
share
|
$ | (0.10 | ) | |
|
Diluted
earnings per
share
|
$ | (0.09 | ) |
SFAS 123R
requires cash flows resulting from excess tax benefits to be classified as part
of cash flows from financing activities. Excess tax benefits represent tax
benefits related to exercised options in excess of the associated deferred tax
asset for such options. There were no excess tax benefits as a result of
adopting SFAS 123R for the year ended December 31, 2006, and no amounts were
classified as an operating cash outflow or a financing cash inflow in the
accompanying condensed consolidated statement of cash flows. Net cash
proceeds from the exercise of stock options were approximately $7.4 million;
$5.6 million and $8.1 million for the years ended December 31, 2005, 2006 and
2007, respectively. There was approximately $260,000 of excess tax
benefits realized from stock option exercises for the year ended December 31,
2007.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Stock-Based Compensation
¾
(Continued)
Stock-based
compensation expense for stock options, restricted stock and employee stock
purchase plan included in the Company's results of operations for the years
ended December 31, was as follows (in thousands):
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Cost
of
revenues
|
$ | 8 | $ | 317 | $ | 926 | ||||||
|
Selling
and
marketing
|
19 | 1,263 | 1,118 | |||||||||
|
Software
development
|
29 | 202 | 340 | |||||||||
|
General
and
administrative
|
290 | 2,373 | 3,056 | |||||||||
|
Total
|
$ | 346 | $ | 4,155 | $ | 5,440 | ||||||
Prior to
the adoption of SFAS 123R, the Company provided the disclosures required under
SFAS 123. Employee stock-based compensation expense recognized under SFAS 123R
was not reflected in the Company's results of operations for the year ended
December 31, 2005. Previously reported amounts have not been restated in the
Company's financial statements.
The
following table illustrates the pro forma effect on operating results and per
share information had the Company accounted for stock-based compensation in
accordance with SFAS 123 for the year ended December 31, 2005, (in thousands,
except per share data):
|
Year
Ended December 31,
|
||||
|
2005
|
||||
|
Net
income, as reported
|
$ | 6,457 | ||
|
Add:
stock-based employee compensation expense included in reported net
income
|
216 | |||
|
Deduct:
total stock-based employee compensation expense determined under
fair
value
based method for all awards
|
(3,560 | ) | ||
|
Pro
forma net income
|
$ | 3,113 | ||
|
Net
income per share:
|
||||
|
Basic
¾
as
reported
|
$ | 0.35 | ||
|
Basic
¾
pro
forma
|
$ | 0.17 | ||
|
Diluted
¾
as
reported
|
$ | 0.34 | ||
|
Diluted
¾
pro
forma
|
$ | 0.16 | ||
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Cash
and Cash Equivalents
The
Company considers all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents. Cash equivalents
consist of money market fund investments and United States Government
Securities. As of December 31, 2006 and 2007, cash of $742,000 and $754,000,
respectively, was restricted to support letters of credit for security
deposits.
Short-Term
Investments
The
Company accounts for short-term investments in accordance with Statement of
Financial Accounting Standards No. 115
“Accounting for Certain Investments
in Debt and Equity Securities”
(“SFAS No. 115”), The Company determines
the appropriate classification of investments at the time of purchase and
reevaluates such designation as of each balance sheet date. The
Company considers all of its investments to be
available-for-sale. Investments consist of commercial paper,
government/federal notes and bonds and corporate obligations with maturities
greater than 90 days at the time of purchase. Available-for-sale investments
with contractual maturities beyond one year are classified as current in the
Company’s consolidated balance sheets because they represent the investment of
cash that is available for current operations. Investments are carried at fair
market value.
Scheduled
maturities of investments classified as available-for-sale as of December 31,
2007 are as follows (in thousands):
|
Maturity
|
Fair
Value
|
|||
|
Due
in:
|
||||
|
2008
|
$ | 68,727 | ||
|
2009-2012
|
41,656 | |||
|
2013-2017
|
3,535 | |||
|
2018
and thereafter
|
1,354 | |||
| 115,272 | ||||
|
Securities
with multiple maturities
|
14,369 | |||
|
Short-term
investments
|
$ | 129,641 | ||
Unrealized
holding gains and losses, net of the related tax effect, on available-for-sale
securities are excluded from earnings and are reported as a separate component
of other comprehensive income in stockholders’ equity until
realized. Realized gains and losses from the sale of
available-for-sale securities are determined on a specific-identification basis.
A decline in market value of any available-for-sale security below cost that is
deemed to be other than temporary results in a reduction in carrying amount to
fair value. The impairment is charged to earnings and a new cost
basis for the security is established. Dividend and interest income
are recognized when earned.
The
unrealized losses on the Company’s investments as of December 31, 2006 and 2007
were generated primarily from increases in interest rates. The losses are
considered temporary, as the contractual terms of these investments do not
permit the issuer to settle the security at a price less than the amortized cost
of the investment. Because the Company has the ability to hold these investments
until a recovery of fair value, which may be maturity, it does not consider
these investments to be other-than-temporarily impaired as of December 31, 2006
and 2007.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Short-Term Investments
¾
(Continued)
The
components of the investments in a loss position for more than twelve months
consists of the following (in thousands):
|
December
31,
|
||||||||||||||||
|
2006
|
|
2007
|
||||||||||||||
|
Aggregate
Fair
Value
|
Gross
Unrealized
Losses
|
Aggregate
Fair
Value
|
Gross
Unrealized
Losses
|
|||||||||||||
|
Government-sponsored
enterprise obligations
|
$ | 3,810 | $ | (56 | ) | $ | 1,592 | $ | (15 | ) | ||||||
|
Corporate
debt securities
|
18,253 | (114 | ) | 13,886 | (49 | ) | ||||||||||
| $ | 22,063 | $ | (170 | ) | $ | 15,478 | $ | (64 | ) | |||||||
The
components of the investments in a loss position for less than twelve months
consists of the following (in thousands):
|
December
31,
|
||||||||||||||||
|
2006
|
|
2007
|
||||||||||||||
|
Aggregate
Fair
Value
|
Gross
Unrealized
Losses
|
Aggregate
Fair
Value
|
Gross
Unrealized
Losses
|
|||||||||||||
|
Government-sponsored
enterprise obligations
|
$ | 4,442 | $ | (13 | ) | $ | 531 | $ | (1 | ) | ||||||
|
Corporate
debt securities
|
10,207 | (10 | ) | 21,234 | (148 | ) | ||||||||||
| $ | 14,649 | $ | (23 | ) | $ | 21,765 | $ | (149 | ) | |||||||
The gross
unrealized gains as of December 31, 2006 and 2007 were approximately $50,000 and
$330,000,
respectively.
Auction
rate securities are variable rate debt instruments whose interest rates are
reset approximately every 28 days. The underlying securities have
contractual maturities greater than twenty years. The auction rate
securities are recorded at fair value. Typically, the carrying value
of auction rate securities approximates fair value due to frequent resetting of
the interest rates. As of February 22, 2008, the Company held auction
rate securities totaling $33.1 million of par value, of which $29.1 million
failed to settle at auctions. These investments are of high credit
quality with AAA credit ratings and are primarily student loan securities
supported by guarantees from the Federal Family Education Loan Program
(FFELP) of the U.S. Department of Education. The Company may not
be able to liquidate and fully recover the carrying value of the remaining
auction rate securities in the near term. These developments may
result in the classification of some or all of these securities as long-term
investments in the Company’s consolidated financial statements for the first
quarter of 2008. In addition, while all of the auction rate
securities are currently rated AAA, if the issuers are unable to successfully
close future auctions and their credit ratings deteriorate, the Company may be
required to record an impairment charge on these investments.
Concentration
of Credit Risk and Financial Instruments
The
Company performs ongoing credit evaluations of its customers’ financial
condition and generally does not require that its customers’ obligations to the
Company be secured. The Company maintains reserves for credit losses, and such
losses have been within management’s expectations. The large size and widespread
nature of the Company’s customer base and lack of dependence on individual
customers mitigate the risk of nonpayment of the Company’s accounts receivable.
The carrying amount of the accounts receivable approximates the net realizable
value. The carrying value of the Company’s financial instruments including cash
and cash equivalents, short-term investments, accounts receivable, accounts
payable, and accrued expenses approximates fair value.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Property
and Equipment
Property
and equipment are stated at cost. All repairs and maintenance costs are expensed
as incurred. Depreciation and amortization are calculated on a straight-line
basis over the following estimated useful lives of the assets:
|
Leasehold
improvements
|
Shorter
of lease term or useful life
|
|
|
Furniture
and office equipment
|
Five
to seven years
|
|
|
Research
vehicles
|
Five
years
|
|
|
Computer
hardware and software
|
Two
to five years
|
Internal
use software costs are capitalized in accordance with Statement of Position No.
98-1, “
Accounting for the
Costs of Computer Software Developed or Obtained for Internal Use
” (“SOP
98-1”). Qualifying costs incurred during the application development stage,
which consist primarily of outside services and purchased software license
costs, are capitalized and amortized over the estimated useful life of the
asset. All other costs are expensed as incurred.
Goodwill,
Intangibles and Other Assets
Goodwill
represents the excess of costs over the fair value of assets of businesses
acquired. Goodwill and intangible assets subject to amortization that arose from
acquisitions prior to July 1, 2001, have been amortized on a straight-line basis
over their estimated useful lives in accordance with Accounting Principles Board
Opinion No. 17,
“Intangible
Assets”
(“APB 17”). The Company adopted the provisions of Statement of
Financial Accounting Standards No. 142,
“Goodwill and Other Intangible
Assets”
(“SFAS 142”), as of January 1, 2002. Goodwill and intangible
assets acquired in a purchase business combination and determined to have an
indefinite useful life are not amortized, but instead tested for impairment at
least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142
also requires that intangible assets with estimable useful lives that arose from
acquisitions on or after July 1, 2001, be amortized over their respective
estimated useful lives using a method of amortization that reflects the pattern
in which the economic benefits of the intangible assets are consumed or
otherwise used up, and reviewed for impairment in accordance with Statement of
Financial Accounting Standards No. 144 (“SFAS 144”),
“Accounting for Impairment or
Disposal of Long-Lived Assets”
.
Acquired
database technology, customer base and trade names and other are related to the
Company’s acquisitions (See Notes 3 and 6). Acquired database technology and
trade names and other are amortized on a straight-line basis over periods
ranging from two to ten years. The acquired intangible asset characterized as
customer base consists of one distinct intangible asset composed of acquired
customer contracts and the related customer relationships. Acquired customer
bases that arose from acquisitions prior to July 1, 2001 are amortized on a
straight-line basis principally over a period of ten years. Acquired customer
bases that arose from acquisitions on or after July 1, 2001 are amortized on a
125% declining balance method over ten years. The cost of capitalized building
photography is amortized on a straight-line basis over five years.
Long-Lived
Assets
In
accordance with SFAS 144, long-lived assets, such as property, plant, and
equipment, and purchased intangibles subject to amortization, are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability of assets to
be held and used is measured by a comparison of the carrying amount of an asset
to estimate undiscounted future cash flows expected to be generated by the asset
or asset group. If the carrying amount of an asset exceeds its estimated future
cash flows, an impairment charge is recognized by the amount for which the
carrying amount of the asset exceeds the fair value of the asset.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Long-Lived
Assets
¾
(Continued)
Assets to
be disposed of would be separately presented in the balance sheet and reported
at the lower of the carrying amount or fair value less costs to sell, and would
no longer be depreciated. The assets and liabilities of a disposed group
classified as held for sale would be presented separately in the appropriate
asset and liability sections of the balance sheet.
Goodwill
and intangible assets not subject to amortization are tested annually for
impairment, and are tested for impairment more frequently if events and
circumstances indicate that the asset might be impaired. An impairment loss is
recognized to the extent that the carrying amount exceeds the asset’s fair
value.
Recent
Accounting Pronouncements
In June
2006, the Financial Accounting Standards Board (“FASB”) issued FASB
Interpretation No. 48 “
Accounting for Uncertainty in Income
Taxes – an interpretation of FASB Statement No. 109
” (“FIN 48”), which
became effective for the Company as of January 1, 2007. FIN 48 addresses the
determination of how tax benefits claimed or expected to be claimed on a tax
return should be recorded in the financial statements. Under FIN 48, the Company
must recognize the tax benefit from an uncertain tax position only if it is
more-likely-than-not that the tax position will be sustained upon examination by
the taxing authorities, based on the technical merits of the position. The tax
benefits recognized in the financial statements from such a position are
measured based on the largest benefit that has a greater than fifty percent
likelihood of being realized upon ultimate resolution. The Company’s
reassessment of its tax positions in accordance with FIN 48 did not have a
material impact on its results of operations and financial
position.
In
September 2006, the FASB issued SFAS No. 157, “
Fair Value Measurements
”
(“SFAS 157”), which defines fair value, establishes a framework for measuring
fair value in accordance with GAAP and expands disclosures about fair value
measurements. SFAS 157 does not require any new fair value measurements
under GAAP and is effective for fiscal years beginning after November 15,
2007. The effects of adoption will be determined by the types of
instruments carried at fair value in the Company’s financial statements at the
time of adoption as well as the method utilized to determine their fair values
prior to adoption. The adoption of SFAS 157 is not expected to have a
material effect on the results of operations or financial position of the
Company.
In
February 2007, the FASB issued SFAS No. 159, “
Fair Value Option for Financial
Assets and Financial Liabilities — Including an amendment of FASB Statement
No. 115
”
(“SFAS 159”), which
permits entities to choose to measure many financial instruments and certain
other items at fair value. SFAS 159 is effective for fiscal years beginning on
or after December 31, 2007. The Company has assessed the provisions of
SFAS 159 and determined that it is not expected to have a material effect
on the results of operations or financial position of the
Company.
In
December 2007, the FASB issued SFAS 141 (Revised 2007), “
Business Combinations”
(“SFAS
141R”), which will change the accounting for any business combination the
Company enters into with an acquisition date after December 31, 2008. Under SFAS
141R, an acquiring entity will be required to recognize all the assets acquired
and liabilities assumed in a transaction at the acquisition date fair value with
limited exceptions. SFAS 141R will change the accounting treatment and
disclosure for certain specific items in a business combination. SFAS 141R
will have an impact on accounting for business combinations once adopted but its
effect will be dependent upon the specifics of any business combination with an
acquisition date subsequent to the date of adoption.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
¾
(Continued)
Recent
Accounting Pronouncements
¾
(Continued)
In
December 2007, the FASB issued SFAS 160 “
Noncontrolling Interests in
Consolidated Financial Statements—An Amendment of ARB No. 51”
(“SFAS
160”), which establishes new accounting and reporting standards for the
non-controlling interest in a subsidiary and for the deconsolidation of a
subsidiary. SFAS 160 is effective for fiscal years beginning on or after
December 15, 2008. The adoption of SFAS 160 is not expected to have a
material impact on the results of operations or financial position of the
Company.
3.
ACQUISITIONS
On
December 21, 2006, CoStar Limited, a wholly owned U.K. subsidiary of CoStar,
acquired Grecam S.A.S. (“Grecam”), a provider of commercial property information
and market-level surveys, studies and consulting services located in Paris,
France. The Company acquired all of the outstanding capital stock of Grecam for
approximately $2.0 million in cash.
On
February 16, 2007, CoStar Limited acquired all of the outstanding capital
stock of Property Investment Exchange Limited (“Propex”) for approximately
$22.0 million, consisting of cash, deferred consideration of approximately
$2.9 million, and 21,526 shares of CoStar common stock. Propex provides
web-based commercial property information and operates an electronic platform
that facilitates the exchange of investment property in the U.K. Propex’s suite
of electronic platforms and listing websites give users access to the U.K.
commercial property investment and leasing markets.
These
acquisitions were accounted for using purchase accounting. The purchase price
for each acquisition was primarily allocated to acquired database technology,
customer base, trade names, and goodwill. The acquired database technology is
being amortized on a straight-line basis over four years. The acquired customer
base for the acquisitions, which consists of one distinct intangible asset for
each acquisition and is composed of acquired customer contracts and the related
customer relationships, is being amortized on a 125% declining balance method
over ten years. The Grecam and Propex acquired trade names are being amortized
on a straight-line basis over three years. Goodwill is not amortized, but is
subject to annual impairment tests. The results of operations of Grecam and
Propex have been consolidated with those of the Company since the respective
dates of the acquisitions and are not considered material to the consolidated
financial statements of the Company. Accordingly, pro forma financial
information has not been presented for either acquisition.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
4. PROPERTY AND EQUIPMENT
Property
and equipment consists of the following (in thousands):
|
December
31,
|
||||||||
|
2006
|
2007
|
|||||||
|
Leasehold
improvements
|
$ | 4,450 | $ | 8,357 | ||||
|
Furniture,
office equipment and research
vehicles
|
18,171 | 19,874 | ||||||
|
Computer
hardware and
software
|
21,862 | 27,735 | ||||||
| 44,483 | 55,966 | |||||||
|
Accumulated
depreciation and
amortization
|
(26,076 | ) | (31,921 | ) | ||||
|
Property
and equipment,
net
|
$ | 18,407 | $ | 24,045 | ||||
5.
GOODWILL
Goodwill
consists of the following (in thousands):
|
December
31,
|
||||||||
|
2006
|
2007
|
|||||||
|
Goodwill
|
$ | 57,720 | $ | 73,077 | ||||
|
Accumulated
amortization
|
(11,223 | ) | (11,223 | ) | ||||
|
Goodwill,
net
|
$ | 46,497 | $ | 61,854 | ||||
The
Company recorded goodwill of approximately $15.0 million for the Propex
acquisition in February 2007. The remaining increase in goodwill in
2007 is related to foreign currency fluctuations.
During
the fourth quarters of 2006 and 2007, the Company completed the annual
impairment test of goodwill and concluded that goodwill was not
impaired.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
6. INTANGIBLES AND OTHER ASSETS
Intangibles
and other assets consists of the following (in thousands, except amortization
period data):
|
December
31,
2006
|
December
31,
2007
|
Weighted-
Average Amortization Period
(in
years)
|
|||||||||
|
Building
photography
|
$ | 9,902 | $ | 10,799 |
5
|
||||||
|
Accumulated
amortization
|
(5,567 | ) | (6,708 | ) | |||||||
|
Building
photography, net
|
4,335 | 4,091 | |||||||||
|
Acquired
database technology
|
22,101 | 21,390 |
4
|
||||||||
|
Accumulated
amortization
|
(20,107 | ) | (20,573 | ) | |||||||
|
Acquired
database technology, net
|
1,994 | 817 | |||||||||
|
Acquired
customer base
|
44,949 | 50,891 |
10
|
||||||||
|
Accumulated
amortization
|
(29,414 | ) | (34,374 | ) | |||||||
|
Acquired
customer base, net
|
15,535 | 16,517 | |||||||||
|
Acquired
trade name
|
4,198 | 9,089 |
6
|
||||||||
|
Accumulated
amortization
|
(2,890 | ) | (4,803 | ) | |||||||
|
Acquired
trade names and other, net
|
1,308 | 4,286 | |||||||||
|
Intangibles
and other assets, net
|
$ | 23,172 | $ | 25,711 | |||||||
Amortization
expense for intangibles and other assets was approximately $6.0 million; $6.1
million and $8.4 million for the years ended December 31, 2005, 2006 and 2007,
respectively.
In the
aggregate, amortization for intangibles and other assets existing as of December
31, 2007 for future periods is expected to be approximately $7.3 million, $5.6
million, $2.3 million, $1.8 million and $1.8 million for the years ending
December 31, 2008, 2009, 2010, 2011 and 2012, respectively.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
7.
INCOME TAXES
The
components of the provision (benefit) for income taxes attributable to
operations consist of the following (in thousands):
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Current:
|
||||||||||||
|
Federal
|
$ | 227 | $ | 414 | $ | 574 | ||||||
|
State
|
57 | 220 | 821 | |||||||||
|
Foreign
|
¾ | ¾ | ¾ | |||||||||
|
Total
current
|
284 | 634 | 1,395 | |||||||||
|
Deferred:
|
||||||||||||
|
Federal
|
4,018 | 7,497 | 9,716 | |||||||||
|
State
|
746 | 1,077 | 72 | |||||||||
|
Foreign
|
(708 | ) | (692 | ) | (1,237 | ) | ||||||
|
Total
deferred
|
4,056 | 7,882 | 8,551 | |||||||||
|
Total
provision for income taxes
|
$ | 4,340 | $ | 8,516 | $ | 9,946 | ||||||
The
components of deferred tax assets and liabilities consists of the following (in
thousands):
|
December
31,
|
||||||||
|
2006
|
2007
|
|||||||
|
Deferred
tax assets:
|
||||||||
|
Reserve
for bad
debts
|
$ | 610 | $ | 799 | ||||
|
Accrued
compensation
|
879 | 1,286 | ||||||
|
Stock
compensation
|
776 | 1,603 | ||||||
|
Net
operating
losses
|
14,747 | 3,177 | ||||||
|
Restructuring
reserve
|
201 | 45 | ||||||
|
Alternative
minimum tax
credits
|
820 | 1,393 | ||||||
|
Other
liabilities
|
1,119 | 1,001 | ||||||
|
Total
deferred tax
assets
|
19,152 | 9,304 | ||||||
|
Deferred
tax liabilities:
|
||||||||
|
Prepaids
|
(644 | ) | (739 | ) | ||||
|
Depreciation
|
(323 | ) | (427 | ) | ||||
|
Identified
intangibles associated with purchase
accounting
|
(4,153 | ) | (4,927 | ) | ||||
|
Total
deferred tax
liabilities
|
(5,120 | ) | (6,093 | ) | ||||
|
Net
deferred tax
asset
|
14,032 | 3,211 | ||||||
|
Valuation
allowance
|
(337 | ) | (63 | ) | ||||
|
Net
deferred
taxes
|
$ | 13,695 | $ | 3,148 | ||||
The net
long-term deferred tax liability shown on the balance sheet includes deferred
tax liabilities and assets related to the U.K. operations of the
Company.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
7. INCOME TAXES
¾
(Continued)
For the
years ended December 31, 2006 and 2007, a valuation allowance has been
established primarily for certain state net operating loss carryforwards due to
the uncertainty of realization. The Company’s change in valuation allowance was
approximately $350,000 and $274,000 during the years ended December 31, 2006 and
2007, respectively. For the year ended December 31, 2007, the Company
had income of approximately $30.3 million subject to applicable U.S. federal and
state income tax laws and a loss of approximately $4.4 million subject to
applicable U.K. tax laws.
The
Company’s provision for income taxes resulted in effective tax rates that varied
from the statutory federal income tax rate as follows (in
thousands):
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Expected
federal income tax provision at 34%
|
$ | 3,670 | $ | 7,115 | $ | 8,805 | ||||||
|
State
income taxes, net of federal benefit
|
533 | 1,014 | 841 | |||||||||
|
Foreign
income taxes, net effect
|
139 | 119 | 156 | |||||||||
|
Stock
compensation
|
¾ | 528 | 146 | |||||||||
|
Increase
(decrease) in valuation allowance
|
3 | (267 | ) | (274 | ) | |||||||
|
Other
adjustments
|
(5 | ) | 7 | 272 | ||||||||
|
Income
tax expense, net
|
$ | 4,340 | $ | 8,516 | $ | 9,946 | ||||||
The
Company paid approximately $95,000, $858,000 and $1.1 million in income taxes
for the years ended December 31, 2005, 2006 and 2007, respectively.
At
December 31, 2007, the Company has net operating loss carryforwards for federal
income tax purposes of approximately $14.9 million, which expire, if unused,
from the year 2013 through the year 2023. The Company has net operating loss
carryforwards for U.K. income tax purposes of approximately $8.1 million, which
do not expire. The Company also has alternative minimum tax credit carryforwards
of approximately $1.4 million.
The
Company adopted FIN 48 on January 1, 2007. As a result of the implementation of
FIN 48, the Company recognized no material adjustment in the liability for
unrecognized income tax benefits. At the adoption date of January 1, 2007, the
Company had $226,000 of unrecognized tax benefits, all of which would favorably
affect the effective tax rate if recognized in future periods. The Company’s
continuing practice is to recognize interest and penalties related to income tax
matters in income tax expense.
The
following table summarizes the activity related to the Company’s unrecognized
tax benefits (in thousands):
|
Unrecognized
tax benefit as of January 1,
2007
|
$ | 226 | ||
|
Increase
for current year tax
positions
|
46 | |||
|
Increase
for prior year tax
positions
|
13 | |||
|
Expiration
of the statute of limitation for assessment of
taxes
|
(25 | ) | ||
|
Unrecognized
tax benefit as of December 31,
2007
|
$ | 260 |
The
unrecognized tax benefit of $260,000 as of December 31, 2007, would favorably
affect the annual effective tax rate, if recognized in future periods. The
unrecognized tax benefit includes approximately $24,000 of interest and $10,000
of penalties accrued during 2007, and approximately $49,000 of interest and
$57,000 of penalties in total as of December 31, 2007. The Company does not
anticipate the amount of the unrecognized tax benefits to change significantly
over the next twelve months.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
7. INCOME TAXES
¾
(Continued)
The
Company’s federal and state income tax returns for tax years 2003 through 2006
remain open to examination. The Company’s U.K. income tax returns for tax years
2001 through 2006 remain open to examination.
8.
GAIN ON LEASE SETTLEMENT, NET
On
September 14, 2007, CoStar Limited, a wholly owned U.K. subsidiary of CoStar,
entered into an agreement with Trafigura Limited to assign to Trafigura the
leasehold interest in the office space located in London. The lease assignment
was completed on December 19, 2007. As a result, CoStar U.K. was paid
approximately $7.6 million, net of expenses, for the assignment of the lease.
The expenses associated with the lease settlement included legal, moving and the
disposal of assets.
9.
COMMITMENTS AND CONTINGENCIES
The
Company leases office facilities and office equipment under various
noncancelable-operating leases. The leases contain various renewal options. Rent
expense for the years ended December 31, 2005, 2006 and 2007 was approximately
$6.8 million, $7.0 million and $8.1 million, respectively.
The
Company entered into a sublease agreement during December 2006 that will
terminate in March 2008. Future sublease income will total $73,000
over the remaining term.
Future
minimum lease payments as of December 31, 2007 are as follows (in
thousands):
|
2008
|
$ | 8,478 | ||
|
2009
|
8,590 | |||
|
2010
|
5,538 | |||
|
2011
|
4,094 | |||
|
2012
|
2,901 | |||
|
2013
and thereafter
|
793 | |||
| $ | 30,394 | |||
Currently,
and from time to time, the Company is involved in litigation incidental to the
conduct of its business. The Company is not a party to any lawsuit or
proceeding that, in the opinion of management, is likely to have a material
adverse effect on its financial position or results of
operations.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
10. SEGMENT
REPORTING
Due to
the increased size, complexity, and funding requirements associated with the
Company’s international expansion in 2007, the Company began to manage the
business geographically in two operating segments, with the primary areas of
measurement and decision-making being the U.S. and International, which includes
the U.K. and France. The U.S. and International segment revenue is comprised of
subscription based information services consisting primarily of CoStar Property
Professional, CoStar Tenant, CoStar COMPS Professional and FOCUS services, and
currently generates approximately 95% of our total revenues. Management relies
on an internal management reporting process that provides revenue and segment
EBITDA, which is the Company’s net income before interest, income taxes,
depreciation and amortization. Management believes that segment EBITDA is an
appropriate measure for evaluating the operational performance of our segments.
EBITDA is used by management to internally measure operating and management
performance and to evaluate the performance of the business. However, this
measure should be considered in addition to, not as a substitute for or superior
to, income from operations or other measures of financial performance prepared
in accordance with GAAP.
Summarized
information by segment was as follows (in thousands):
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Revenues
|
||||||||||||
|
United
States
|
$ | 123,360 | $ | 146,073 | $ | 170,298 | ||||||
|
International
|
10,978 | 12,816 | 22,507 | |||||||||
|
Total
revenues
|
$ | 134,338 | $ | 158,889 | $ | 192,805 | ||||||
|
EBITDA
|
||||||||||||
|
United
States
|
$ | 19,372 | $ | 26,205 | $ | 32,872 | ||||||
|
International
|
(316 | ) | (315 | ) | 1,127 | |||||||
|
Total
EBITDA
|
$ | 19,056 | $ | 25,890 | $ | 33,999 | ||||||
|
Reconciliation
of EBITDA to net income
|
||||||||||||
|
EBITDA
|
$ | 19,056 | $ | 25,890 | $ | 33,999 | ||||||
|
Purchase
amortization in cost of revenues
|
(1,250 | ) | (1,205 | ) | (2,170 | ) | ||||||
|
Purchase
amortization in operating expenses
|
(4,469 | ) | (4,183 | ) | (5,063 | ) | ||||||
|
Depreciation
and other amortization
|
(5,995 | ) | (6,421 | ) | (8,914 | ) | ||||||
|
Interest income,
net
|
3,455 | 6,845 | 8,045 | |||||||||
|
Income
tax expense, net
|
(4,340 | ) | (8,516 | ) | (9,946 | ) | ||||||
|
Net
income
|
$ | 6,457 | $ | 12,410 | $ | 15,951 | ||||||
International
EBITDA includes a corporate allocation of approximately $1.0 million for the
years ended December 31, 2005 and 2006 and approximately $2.6 million for the
year ended December 31, 2007.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
|
10.
|
SEGMENT
REPORTING — (CONTINUED)
|
Summarized
information by segment was as follows (in thousands):
|
December
31,
|
||||||||
|
2006
|
2007
|
|||||||
|
Property
and equipment, net
|
||||||||
|
United
States
|
$ | 16,907 | $ | 18,162 | ||||
|
International
|
1,500 | 5,883 | ||||||
|
Total
property and equipment,
net
|
$ | 18,407 | $ | 24,045 | ||||
|
Assets
|
||||||||
|
United
States
|
$ | 271,179 | $ | 308,373 | ||||
|
International
|
33,718 | 72,659 | ||||||
|
Total
segment
assets
|
$ | 304,897 | $ | 381,032 | ||||
|
Reconciliation
of segment assets to total assets
|
||||||||
|
Total
segment
assets
|
$ | 304,897 | $ | 381,032 | ||||
|
Investment
in
subsidiaries
|
(18,343 | ) | (18,343 | ) | ||||
|
Intercompany
receivables
|
(11,117 | ) | (40,846 | ) | ||||
|
Total
assets
|
$ | 275,437 | $ | 321,843 | ||||
|
Liabilities
|
||||||||
|
United
States
|
$ | 18,382 | $ | 21,581 | ||||
|
International
|
19,197 | 61,025 | ||||||
|
Total
segment
liabilities
|
$ | 37,579 | $ | 82,606 | ||||
|
Reconciliation
of segment liabilities to total liabilities
|
||||||||
|
Total
segment
liabilities
|
$ | 37,579 | $ | 82,606 | ||||
|
Intercompany
payables
|
(12,252 | ) | (42,568 | ) | ||||
|
Total
liabilities
|
$ | 25,327 | $ | 40,038 | ||||
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
11. STOCKHOLDERS’
EQUITY
Preferred
Stock
The
Company has 2,000,000 shares of preferred stock, $0.01 par value, authorized for
issuance. The Board of Directors may issue the preferred stock from time to time
as shares of one or more classes or series.
Common
Stock
The
Company has 30,000,000 shares of common stock, $0.01 par value, authorized for
issuance. Dividends may be declared and paid on the common stock, subject in all
cases to the rights and preferences of the holders of preferred stock and
authorization by the Board of Directors. In the event of liquidation or winding
up of the Company and after the payment of all preferential amounts required to
be paid to the holders of any series of preferred stock, any remaining funds
shall be distributed among the holders of the issued and outstanding common
stock.
12. NET
INCOME PER SHARE
The
following table sets forth the calculation of basic and diluted net income per
share (in thousands except per share amounts):
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Numerator:
|
||||||||||||
|
Net
income
|
$ | 6,457 | $ | 12,410 | $ | 15,951 | ||||||
|
Denominator:
|
||||||||||||
|
Denominator
for basic net income per share
¾
weighted-average
outstanding shares
|
18,453 | 18,751 | 19,044 | |||||||||
|
Effect
of dilutive securities:
|
||||||||||||
|
Stock
options and warrants
|
554 | 414 | 360 | |||||||||
|
Denominator
for diluted net income per share
¾
weighted-average
outstanding shares
|
19,007 | 19,165 | 19,404 | |||||||||
|
Net
income per share
¾
basic
|
$ | 0.35 | $ | 0.66 | $ | 0.84 | ||||||
|
Net
income per share
¾
diluted
|
$ | 0.34 | $ | 0.65 | $ | 0.82 | ||||||
Stock
options and warrants to purchase approximately 921,000, 86,900 and 80,400 shares
were outstanding as of December 31, 2005, 2006 and 2007, respectively, but were
not included in the computation of diluted earnings per share because the
exercise price of the stock options was greater than the average share price of
the common shares and, therefore, the effect would have been
anti-dilutive.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
13.
EMPLOYEE BENEFIT PLANS
Stock
Incentive Plans
In June
1998, the Company’s Board of Directors adopted the 1998 Stock Incentive Plan
(the “1998 Plan”) prior to consummation of the Company’s initial public
offering. In April 2007, the Company’s Board of Directors adopted the
CoStar Group, Inc. 2007 Stock Incentive Plan (as amended, the “2007 Plan”),
subject to stockholder approval, which was obtained on June 7,
2007. All shares of common stock that were authorized for issuance
under the 1998 Plan that, as of June 7, 2007, remained available for issuance
under the 1998 Plan (excluding shares subject to outstanding awards) were rolled
into the 2007 Plan and, as of that date, no shares of common stock are available
under the 1998 Plan. The 1998 Plan continues to govern unexercised
and unexpired awards issued under the 1998 Plan prior to June 7,
2007. The 1998 Plan provides for the grant of stock and stock options
to officers, directors and employees of the Company and its subsidiaries. Stock
options granted under the 1998 Plan might be incentive or non-qualified. The
exercise price for an incentive stock option may not be less than the fair
market value of the Company’s common stock on the date of grant. The
vesting period of the options and restricted stock grants is determined by the
Board of Directors and is generally three to four years. Upon the occurrence of
a Change of Control, as defined in the 1998 Plan, all outstanding unexercisable
options and restricted stock grants under the 1998 Plan immediately become
exercisable.
The 2007
Plan provides for the grant of stock options, restricted stock, restricted stock
units, and stock appreciation rights to officers, employees and directors of the
Company and its subsidiaries. Stock options granted under the 2007 Plan may be
non-qualified or may qualify as incentive stock options. The exercise price for
an option may not be less than the fair market value of the Company’s common
stock on the date of grant. The vesting period for each grant of
options, restricted stock, restricted stock units and stock appreciation rights
under the 2007 Plan is determined by the Board of Directors and is generally
three to four years, subject to minimum vesting periods of at least one year.
The Company has reserved the following shares of common stock for issuance under
the 2007 Plan: (a) 1,000,000 shares of common stock, plus (b) 121,875 shares of
common stock that were authorized for issuance under the 1998 Plan that, as of
June 7, 2007, remained available for issuance under the 1998 Plan (not including
any Shares that are subject as of such date to outstanding awards under the 1998
Plan), and (c) any shares of common stock subject to outstanding awards under
the 1998 Plan as of June 7, 2007 that on or after such date cease for any reason
to be subject to such awards (other than by reason of exercise or settlement of
the awards to the extent they are exercised for or settled in vested and
nonforfeitable shares). Unless terminated sooner, the 2007 Plan will terminate
in April 2017, but will continue to govern unexercised and unexpired awards
issued under the 2007 Plan prior to that date. Approximately 1.1
million shares were available for future grant under the 2007 Plan as of
December 31, 2007.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
13.
EMPLOYEE BENEFIT PLANS
¾
(Continued)
Stock Incentive Plans
¾
(Continued)
Option
activity was as follows:
|
Number
of Shares
|
Range
of Exercise Price
|
Weighted
Average
Exercise
Price
|
Weighted
Average Remaining Contract Life (in years)
|
Aggregate
Intrinsic Value
(in
thousands)
|
||||||||||||||||
|
Outstanding
at December 31, 2004
|
1,850,334 | $9.00 - $52.13 | $ | 29.21 | ||||||||||||||||
|
Granted
|
10,000 | $43.17 - $43.17 | $ | 43.17 | ||||||||||||||||
|
Exercised
|
(292,474 | ) | $9.00 - $44.86 | $ | 25.34 | |||||||||||||||
|
Canceled
or expired
|
(93,963 | ) | $17.25 - $45.18 | $ | 33.68 | |||||||||||||||
|
Outstanding
at December 31, 2005
|
1,473,897 | $9.00 - $52.13 | $ | 29.76 | ||||||||||||||||
|
Granted
|
96,900 | $51.92 | $ | 51.92 | ||||||||||||||||
|
Exercised
|
(269,755 | ) | $9.00 - $45.18 | $ | 24.35 | |||||||||||||||
|
Canceled
or expired
|
(26,565 | ) | $18.28 - $45.18 | $ | 37.85 | |||||||||||||||
|
Outstanding
at December 31, 2006
|
1,274,477 | $9.00 - $52.13 | $ | 32.23 | ||||||||||||||||
|
Granted
|
7,000 | $48.25 - $54.12 | $ | 50.77 | ||||||||||||||||
|
Exercised
|
(288,757 | ) | $9.00 - $45.18 | $ | 28.16 | |||||||||||||||
|
Canceled
or expired
|
(24,875 | ) | $21.28 - $51.92 | $ | 44.82 | |||||||||||||||
|
Outstanding
at December 31, 2007
|
967,845 | $16.20 - $54.12 | $ | 33.25 |
5.26
|
$ | 13,932 | |||||||||||||
|
Exercisable
at December 31, 2005
|
960,454 | $9.00 - $52.13 | $ | 27.04 | ||||||||||||||||
|
Exercisable
at December 31, 2006
|
929,324 | $9.00 - $52.13 | $ | 28.93 | ||||||||||||||||
|
Exercisable
at December 31, 2007
|
826,782 | $16.20 - $52.13 | $ | 31.07 |
4.87
|
$ | 13,504 | |||||||||||||
The
aggregate intrinsic value is calculated as the difference between (i) the
closing price of the common stock at December 31, 2005, 2006 and 2007 and (ii)
the exercise prices of the underlying awards, multiplied by the
shares underlying options as of December 31, 2005, 2006 and 2007, that had an
exercise price less than the closing price on that date. Options to purchase
292,474, 269,755, and 288,757 shares were exercised for the years ended December
31, 2005, 2006, and 2007, respectively. The aggregate intrinsic value
of options exercised, determined as of the date of option exercise, was $5.9
million, $7.4 million and $7.5 million, respectively.
At
December 31, 2007, there was $11.1 million of unrecognized compensation cost
related to stock-based payments, net of forfeitures, which is expected to be
recognized over a weighted-average-period of 2.1 years.
The
weighted-average grant date fair value of each option granted during the years
ended December 2005, 2006 and 2007 was $26.65, $33.45 and $32.70,
respectively.
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
13.
EMPLOYEE BENEFIT PLANS
¾
(Continued)
Stock
Incentive Plans
¾
(Continued)
The
Company estimated the fair value of each option granted on the date of grant
using the Black-Scholes option-pricing model, using the assumptions noted in the
following table:
|
Year
Ended December 31,
|
||||||||||||
|
2005
|
2006
|
2007
|
||||||||||
|
Dividend
yield
|
0 | % | 0 | % | 0 | % | ||||||
|
Expected
volatility
|
64 | % | 61 | % | 61 | % | ||||||
|
Risk-free
interest rate
|
4.4 | % | 4.7 | % | 4.7 | % | ||||||
|
Expected
life (in years)
|
5 | 5 | 5 | |||||||||
The
assumptions above and the estimation of expected forfeitures are based on
multiple facts, including historical employee behavior patterns of exercising
options and post-employment termination behavior, expected future employee
option exercise patterns, and the historical volatility of the Company’s stock
price.
The
following table summarizes information regarding options outstanding at December
31, 2007:
|
Options
Outstanding
|
Options
Exercisable
|
|||||||||||
|
Range
of
Exercise
Price
|
Number
of Shares
|
Weighted
Average Remaining Contractual Life (in years)
|
Weighted
Average Exercise Price
|
Number
of Shares
|
Weighted
Average Exercise Price
|
|||||||
|
$16.20
- $18.06
|
101,117
|
3.77
|
$
|
17.94
|
101,117
|
$
|
17.94
|
|||||
|
$18.12
- $20.30
|
117,953
|
4.56
|
$
|
19.23
|
117,953
|
$
|
19.23
|
|||||
|
$20.60
- $28.15
|
157,431
|
4.45
|
$
|
25.99
|
157,431
|
$
|
25.99
|
|||||
|
$29.00
- $30.75
|
137,096
|
3.58
|
$
|
30.26
|
137,096
|
$
|
30.26
|
|||||
|
$31.50
- $39.00
|
112,910
|
5.29
|
$
|
38.11
|
90,410
|
$
|
37.89
|
|||||
|
$39.53
- $44.06
|
100,563
|
5.76
|
$
|
41.16
|
76,062
|
$
|
41.33
|
|||||
|
$44.86
- $45.18
|
153,375
|
6.82
|
$
|
45.03
|
117,250
|
$
|
45.04
|
|||||
|
$46.81
- $51.92
|
83,400
|
8.69
|
$
|
51.56
|
28,463
|
$
|
51.38
|
|||||
|
$52.13
- $52.13
|
1,000
|
2.19
|
$
|
52.13
|
1,000
|
$
|
52.13
|
|||||
|
$54.12
- $54.12
|
3,000
|
9.42
|
$
|
54.12
|
0
|
$
|
0.00
|
|||||
|
$16.20
- $54.12
|
967,845
|
5.26
|
$
|
33.25
|
826,782
|
$
|
31.07
|
|||||
The
following table presents unvested restricted stock awards activity for the year
ended December 31, 2007:
|
Number
of Shares
|
Weighted
Average Grant Date
Fair
Value per Share
|
|||||||
|
Unvested
restricted stock at December 31,
2006
|
212,277 | $ | 47.46 | |||||
|
Granted
|
131,403 | $ | 53.29 | |||||
|
Vested
|
(40,377 | ) | $ | 50.09 | ||||
|
Canceled
|
(44,715 | ) | $ | 49.54 | ||||
|
Unvested
restricted stock at December 31,
2007
|
258,588 | $ | 48.55 | |||||
COSTAR
GROUP, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
¾
(Continued)
13.
EMPLOYEE BENEFIT PLANS
¾
(Continued)
Employee
401(k) Plan
The
Company maintains a 401(k) Plan (the “401(k)”) as a defined contribution
retirement plan for all eligible employees. The 401(k) provides for
tax-deferred contributions of employees’ salaries, limited to a maximum annual
amount as established by the Internal Revenue Service. In 2005, 2006 and 2007,
the Company matched 100% of employee contributions up to a maximum of 6% of
total compensation. Amounts contributed to the 401(k) by the Company to match
employee contributions for the years ended December 31, 2005, 2006 and 2007 were
approximately $1.6 million, $2.0 million and $2.3 million, respectively. The
Company paid administrative expenses in connection with the 401(k) plan of
approximately $18,000, $25,000 and $22,000 for the years ended December 31,
2005, 2006 and 2007, respectively.
Employee
Pension Plan
The
Company maintains a company personal pension plan for all eligible employees in
the Company’s London, England office. The plan is a defined contribution plan.
Employees are eligible to contribute a portion of their salaries, subject to a
maximum annual amount as established by the Inland Revenue. The Company
contributes a match subject to the percentage of the employees’ contribution.
Amounts contributed to the plan by the Company to match employee contributions
for the years ended December 31, 2005, 2006 and 2007 were approximately
$175,000, $193,000 and $281,000, respectively.
Employee
Stock Purchase Plan
As of
August 1, 2006, the Company introduced an Employee Stock Purchase Plan (“ESPP”),
pursuant to which eligible employees participating in the plan authorize the
Company to withhold from the employees’ compensation and use the withheld
amounts to purchase shares of the Company's common stock at 90% of the market
price. Participating employees are able to purchase common stock under this plan
during the offering period. The offering period begins the Saturday before each
of the Company’s regular pay dates and ends on each of the Company’s regular pay
dates. There were 95,489 and 86,308 shares available for purchase
under the plan as of December 31, 2006 and 2007, respectively and approximately
4,000 and 9,000 shares of the Company’s common stock were purchased during 2006
and 2007, respectively.
