XNAS:AZPN Aspen Technology Inc Annual Report 10-K Filing - 6/30/2012

Effective Date 6/30/2012

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 

 
FORM 10-K
 
(Mark One)
 
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  For the fiscal year ended June 30, 2012
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                                to

Commission file number: 0-24786
 

 
Aspen Technology, Inc.
(Exact name of registrant as specified in its charter)
 
Delaware
 
04-2739697
(State or other jurisdiction of incorporation or organization)   (I.R.S. Employer Identification No.)
200 Wheeler Road
 
 
Burlington, Massachusetts   01803
(Address of principal executive offices)   (Zip Code)
 
Registrant’s telephone number, including area code: 781-221-6400
 

  
Securities registered pursuant to Section 12(b) of the Act:
None
 
Securities registered pursuant to Section 12(g) of the Act:
Common stock, $0.10 par value per share
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x   No o
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the 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 for the past 90 days. Yes x   No o
 
Indicate by checkmark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x   No o
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of the 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. o
 


 
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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 Exchange Act.
 
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o
(Do not check if a smaller reporting company)
Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o   No x
 
As of December 30, 2011, the aggregate market value of common stock (the only outstanding class of common equity of the registrant) held by non-affiliates of the registrant was $1,340,867,268 based on a total of 77,283,416 shares of common stock held by non-affiliates and on a closing price of $17.35 on December 30, 2011 for the common stock as reported on The NASDAQ Global Select Market.
 
There were 93,237,092 shares of common stock outstanding as of August 15, 2012.
 
DOCUMENTS INCORPORATED BY REFERENCE
 
Portions of the registrant’s Proxy Statement related to its 2012 Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A not later than 120 days after the end of the fiscal year covered by this Form 10-K are incorporated by reference in Part III, Items 10-14 of this Form 10-K.
 
 
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TABLE OF CONTENTS
 
   
Page
PART I
Item 1.
4
Item 1A.
15
Item 1B.
20
Item 2.
20
Item 3.
21
Item 4.
22
PART II
Item 5.
23
Item 6.
25
Item 7.
26
Item 7A.
51
Item 8.
51
Item 9.
51
Item 9A.
52
Item 9B.
55
PART III
Item 10.
56
Item 11.
56
Item 12.
56
Item 13.
56
Item 14.
56
PART IV
Item 15.
57
SIGNATURES
 

 
Our registered trademarks include aspenONE, Aspen Plus, AspenTech, the AspenTech logo, DMCplus, HTFS, HYSYS and INFOPLUS.21. Aspen Basic Engineering, Aspen Collaborative Demand Manager, Aspen Economic Evaluation, Aspen Exchanger Design and Rating, Aspen Fleet Optimizer, Aspen Inventory Management & Operations Scheduling, Aspen Petroleum Scheduler, Aspen Petroleum Supply Chain Planner, Aspen PIMS, Aspen Plus and Aspen Supply Chain Planner are our trademarks. All other trademarks, trade names and service marks appearing in this Form 10-K are the property of their respective owners.
 
 
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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS AND INDUSTRY DATA
 
This Form 10-K contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements relate to future events or our future financial performance. We generally identify forward- looking statements by terminology such as “anticipate,” “believe,” “could,” “estimate,” “expect,” “intend,” “may,” “potential,” “should,” “target,” or the negative of these terms or other similar words. These statements are only predictions. The outcome of the events described in these forward-looking statements is subject to known and unknown risks, uncertainties and other factors that may cause our, our customers’ or our industry’s actual results, levels of activity, performance or achievements expressed or implied by these forward-looking statements, to differ. “Item 1. Business,” “Item 1A. Risk Factors” and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” as well as other sections in this Form 10-K, discuss some of the factors that could contribute to these differences. The forward-looking statements made in this Form 10-K relate only to events as of the date on which the statements are made. We undertake no obligation to update any forward- looking statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events. Our forward-looking statements do not reflect the potential impact of any future acquisitions, mergers, dispositions, joint ventures or investments we may make.
 
This Form 10-K also contains estimates and other information concerning our industry, including market size and growth rates that are based on industry publications, surveys and forecasts, including those generated by ARC Advisory Group. This information involves a number of assumptions and limitations, and you are cautioned not to give undue weight to these estimates. Although we believe the information in these industry publications, surveys and forecasts is reliable, we have not independently verified the accuracy or completeness of the information. The industry in which we operate is subject to a high degree of uncertainty and risk due to variety of factors, including those described in “Item 1A. Risk Factors.”
 
PART I
 
Item 1.      Business.
 
Overview
 
We are a leading global provider of mission-critical process optimization software solutions which are designed to manage and optimize plant and process design, operational performance, and supply chain planning. Our aspenONE software and related services have been developed specifically for companies in the process industries, including the energy, chemicals, and engineering and construction industries. Customers use our solutions to improve their competitiveness and profitability by increasing throughput and productivity, reducing operating costs, enhancing capital efficiency, and decreasing working capital requirements.
 
Our software incorporates our proprietary empirical models of manufacturing and planning processes and reflects the deep domain expertise we have amassed from focusing on solutions for the process industries for over 30 years. We have developed our applications to design and optimize processes across three principal business areas: engineering, manufacturing and supply chain. We are a recognized market and technology leader in providing process optimization software for each of these business areas.
 
We have established sustainable competitive advantages within our industry based on the following strengths:
 
 
·
Innovative products that can enhance our customers’ profitability;
 
·
Long-term customer relationships;
 
·
Large installed base of users of our software; and
 
·
Long-term license contracts with historically high renewal rates
 
We have more than 1,500 customers globally. Our customers include manufacturers in process industries such as energy, chemicals, pharmaceuticals, consumer packaged goods, power, metals and mining, pulp and paper, and biofuels, as well as engineering and construction firms that help design and build process manufacturing plants.
 
Industry Background
 
The process industries consist of companies that typically manufacture finished products by applying a controlled chemical process either to a raw material that is fed continuously through the plant or to a specific batch of raw material.  The process industries include energy, chemicals, pharmaceuticals, consumer packaged goods, power, metals and mining, pulp and paper, and biofuels as well as engineering and construction firms that design and build process manufacturing plants.
 
 
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Process manufacturing is often complex because small changes in the feedstocks used, or to the chemical process applied, can have a significant impact on the efficiency and cost-effectiveness of manufacturing operations. As a result, process manufacturers, as well as the engineering and construction firms that partner with these manufacturers, have extensive technical requirements and need sophisticated, integrated software to help design, operate and manage their complex manufacturing environments. The unique characteristics associated with process manufacturing create special demands for business applications that frequently exceed the capabilities of generic software applications or non-process manufacturing software packages.
 
Industry Specific Challenges Facing the Process Industries
 
Companies in different process industries face specific challenges that are driving the need for software solutions that design, operate and manage manufacturing environments more effectively:
 
 
Energy.  Our energy markets are comprised of three primary sectors: Refining and Marketing, also called “downstream”, Exploration and Production, also called “upstream”, and Gas Processing, also called “midstream”:
 
 
Companies engaged in Refining and Marketing convert crude oil through a chemical manufacturing process into end products such as gasoline, jet and diesel fuels and into intermediate products for downstream chemical manufacturing companies. These companies are characterized by high volumes and low operating margins. In order to deliver better margins, they focus on optimizing feedstock selection and product mix, maximizing throughput, and minimizing inventory, all while operating safely and in accordance with regulations.
 
 
Companies engaged in Exploration and Production explore for and produce hydrocarbons. They target reserves in increasingly diverse geographies involving greater geological, logistical and political challenges. They need to design and develop ever larger, more complex and more remote production, gathering and processing facilities as quickly as possible with the objective of optimizing production and ensuring regulatory compliance.
 
 
Companies engaged in Gas Processing gather natural gas from well heads, clean it, process it and separate it into dry natural gas and natural gas liquids in preparation for transport to downstream markets.  The number of gas processing plants in North America has increased significantly in recent years to process gas extracted from shale deposits.
 
 
Chemicals.  The chemicals industry includes both bulk and specialty chemical companies:
 
 
Bulk chemical producers, which manufacture commodity chemicals, compete primarily on price, are seeking to achieve economies of scale and manage operating margin pressure by building larger, more complex plants located near feedstock sources.
 
 
Specialty chemical manufacturers, which primarily manufacture highly differentiated customer-specific products, face challenges in managing diverse product lines, multiple plants and complex supply chains.
 
 
Engineering and construction.  Engineering and construction firms must compete on a global basis in bidding on and executing complex, large-scale projects. They need a digital environment in which optimal plant designs can be produced quickly and efficiently, incorporating highly accurate cost estimation technology. In addition, these projects require software that enables significant collaboration internally, with the manufacturer, and in many cases, with other engineering and construction firms.
 
Similarly, companies in the pharmaceuticals, consumer packaged goods, power, metals and mining, pulp and paper, and biofuels industries are seeking process optimization solutions that help them deliver improved financial and operating results in the face of varied process manufacturing challenges.
 
 
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Increasing Complexity of the Process Industries
 
Companies in the process industries constantly face pressure on margins, which results in their continually seeking ways to operate more efficiently.  At the same time, these manufacturers have to battle growing complexity as a result of the following industry trends:
 
 
Globalization of markets.  Process manufacturers are expanding their operations beyond mature geographic markets in order to take advantage of growing demand and available feedstocks in emerging markets such as China, India, Russia, Latin America and the Middle East. Process manufacturers must be able to design, build and operate plants in emerging markets efficiently and economically. They also need to improve efficiency and reduce costs at their existing plants in mature markets in order to compete with new plants in emerging markets.
 
 
Volatile markets.  Process manufacturers must react quickly to frequent changes in feedstock prices, temporary or longer-term feedstock shortages, and rapid changes in finished product prices. Unpredictable commodity markets strain the manufacturing and supply chain operations of process manufacturers, which must consider, and when appropriate implement, changes in inventory levels, feedstock inputs, equipment usage and operational processes in order to remain competitive.
 
 
Environmental and safety regulations.  Process companies must comply with an expanding array of data maintenance and reporting requirements under governmental and regulatory mandates, and the global nature of their operations can subject them to numerous regulatory regimes. These companies often face heightened scrutiny and oversight because of the environmental, safety and other implications of their products and manufacturing processes. These companies increasingly are relying upon software applications to model potential outcomes, store operating data and develop reporting capabilities.
 
Market Opportunity
 
Technology solutions historically have played a major role in helping companies in the process industries improve their manufacturing productivity. In the 1980’s, process manufacturers implemented distributed control systems, or DCS, to automate the management of plant hardware. DCS use computer hardware, communication networks and industrial instruments to measure, record and automatically control process variables. In the 1990’s, these manufacturers adopted enterprise resource planning, or ERP, systems to streamline back office functions and interact with DCS. This allowed process manufacturers to track, monitor and report the performance of each plant, rather than relying on traditional paper and generic word processing spreadsheets.
 
Many process manufacturers have implemented both DCS and ERP systems but have realized that their investments in hardware and back-office systems are inadequate. A DCS is only able to control and monitor processes based on fixed sets of parameters and cannot dynamically react to changes in the manufacturing process unless instructed by end users. ERP systems can only record what is produced in operations. Although DCS and ERP systems help manage manufacturing performance, neither of these systems can optimize what is produced, how it is produced or where it is produced. Moreover, neither can help a process manufacturer understand how to improve its processes or how to identify opportunities to decrease operating expenses.
 
Process optimization software addresses the gap between DCS and ERP systems. This software focuses on optimizing the manufacturing process itself: how the process is run and the economics of that process. By connecting DCS and ERP systems with intelligent, dynamic applications, process optimization software allows a manufacturer to make better, faster economic decisions. This software can optimize a manufacturing environment by, for example, incorporating process manufacturing domain knowledge, supporting real-time decision making, and providing the ability to forecast and simulate potential actions. Furthermore, these solutions can optimize the supply chain by helping a manufacturer to understand the operating conditions in each plant, which enables a manufacturer to decide where best to manufacture products.
 
Based on information and reports from ARC Advisory Group (PET 2010, CPM and RPO 2011, SCP 2012), the market for engineering, manufacturing and supply chain process optimization software and services for the major markets that we serve was approximately $2.8 billion in 2011. More specifically, based on this information, we estimate that:
 
 
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the total engineering market for all vertical industries was approximately $600 million in 2011 and is expected to grow at approximately 10% annually through 2015;
 
 
the manufacturing market addressing the energy, chemicals and pharmaceuticals verticals was approximately $1.9 billion in 2011 and is expected to grow at approximately 12% annually through 2015; and
 
 
the supply chain market addressing the energy, chemicals and pharmaceutical verticals was approximately $300 million in 2011 and is expected to grow at 8% annually through 2015.
 
aspenONE Solutions
 
We provide integrated process optimization software solutions designed and developed specifically for the process industries. Customers use our solutions to improve their competitiveness and profitability by increasing throughput and productivity, reducing operating costs, enhancing capital efficiency, and decreasing working capital requirements. Our aspenONE software applications are organized into two suites, which are centered on our principal business areas of engineering, manufacturing and supply chain:
 
 
aspenONE Engineering.  Our engineering software is used on an engineer’s desktop to design new plants, re-design existing plants, and simulate and optimize plant processes.
 
 
aspenONE Manufacturing and Supply Chain.  Our manufacturing software is designed to optimize day-to-day processing activities, enabling process manufacturers to make better, more profitable decisions and to improve plant performance. Our supply chain management software is designed to enable process manufacturers to reduce inventory levels, increase asset efficiency and optimize supply chain decisions.
 
In July 2009 we introduced our aspenONE licensing model which is a subscription offering under which customers receive access to all of the products within the aspenONE suite(s) they license, including the right to any new unspecified future software products and updates that may be introduced into a licensed aspenONE software suite. This affords customers the ability to use our software whenever required and to experiment with different applications to best solve whatever critical business challenges they face.
 
We offer customer support, professional services and training services to our customers. Under our aspenONE licensing model, and for point product arrangements entered into since July 2009, software maintenance and support is included for the term of the arrangement. Professional services are offered to customers as a means to further implement and extend our technology across their corporations.
 
The key benefits of our aspenONE solutions include:
 
Broad and comprehensive software suites.  We believe we are the only software provider that has developed comprehensive suites of software applications addressing the engineering, manufacturing and supply chain requirements of process manufacturers. While some competitors offer solutions in one or two principal business areas, no other vendor can match the breadth of our aspenONE offerings. In addition, we have developed an extensive array of software applications that address extremely specific and complex industry and end user challenges, such as feedstock selection and production scheduling for petroleum companies.
 
Mission-critical, integrated software solutions.  aspenONE provides a standards-based framework that integrates applications, data and models within each of our software suites. Process manufacturers seeking to improve their mission-critical business operations can use the integrated software applications in the aspenONE Manufacturing and Supply Chain suite to support real-time decision making both for individual production facilities and across multiple sites. In addition, the common data models underlying an aspenONE suite improve collaboration and productivity by enabling data to be entered once and then maintained in a centralized repository accessible across a customer’s enterprise.
 
Flexible commercial model.  Our aspenONE licensing model provides a customer with access to all of the applications within the aspenONE suite(s) the customer licenses, including the right to any new unspecified future software products and updates that may be introduced into the licensed aspenONE software suite. The customer can change or alternate the use of multiple applications in a licensed suite through the use of exchangeable units of measurement, or tokens, licensed in quantities determined by the customer. This enables the customer to use those applications whenever required and to experiment with different applications to best solve whatever critical business challenges the customer faces. The customer can easily increase their usage of our software as their business requirements evolve.
 
 
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Hardware-independent technology.  Our software can be easily integrated and used with equipment manufactured by any major process manufacturing hardware vendor. Because of our hardware-independent approach, customers can use our software solutions to create a unified view of their operations, even if their plants use hardware from different vendors.
 
Our Competitive Strengths
 
We believe our key competitive advantages include, in addition to the comprehensive breadth of our integrated software solutions and the flexibility of our aspenONE licensing model, the following:
 
Market leadership.  We are a leader in each of the markets addressed by our software. Based on information presented in reports issued by ARC Advisory Group relating to performance in our core industries, we ranked:
 
 
#1 in the market addressed by our engineering software;
 
 
#2 in the market addressed by our manufacturing software; and
 
 
#2 in the market addressed by our supply chain software.
 
Industry-leading innovation based on substantial process expertise.  Over the past 30 years, our significant investment in research and development has led to a number of major process engineering advances considered to be industry-standard applications. Since our founding, we have built a highly specialized development organization comprised of not only traditional software engineers but also chemical engineers. This approach provides us with substantial process industry expertise, as our developers have critical know-how that allows us to address the specific challenges of our customers.
 
Rapid, high return on investment.  Many customers purchase our software because they believe it will provide rapid, demonstrable and significant returns on their investment and increase their profitability. For some customers, cost reductions in the first year following installation have exceeded the total cost of our software. For many customers, even a relatively small improvement in productivity can generate substantial recurring benefits due to the large production volumes and limited profit margins typical in process industries. In addition, our solutions can generate organizational efficiencies and operational improvements that can further increase a process company’s profitability.
 
Growth Strategy
 
Our objective is to further establish and extend our position as a leading global provider of process optimization software and related services to the process industries. We intend to build upon our market and technology leadership position by pursuing the following:
 
Continue to provide innovative, market-leading solutions.  We have pioneered a number of industry standard and award-winning software applications. For example, AspenPlus, our process modeling tool for the chemicals industry, has won the Chemical Processing magazine Readers’ Choice Award for “Process Simulation Software” for the last eight years. We have been recognized by R&D Magazine for innovation in out of the box modeling capabilities that we developed with the National Institute of Standards and Technology. Our recent innovations include applications for mobile devices, search and collaboration, electrolyte and biofuel characterizations, and methodologies for carbon management. We intend to continue to invest in research and development in order to develop and offer new and enhanced solutions for our aspenONE suites.
 
Further penetrate existing customer base.  We have an installed base of over 1,500 customers, but many customers do not use all of our products. As we transition these customers to our aspenONE licensing model, we will seek to identify ways in which they can improve their business processes by using the entire licensed suite of aspenONE applications, both at an individual user level and across all of their plant locations.
 
Expand presence in emerging markets.  Companies in the process industries are expanding their operations to take advantage of growing demand and available feedstocks in less mature markets such as China, India, Russia, Latin America and the Middle East. Additionally, process manufacturers with existing plants in these markets are beginning to recognize the value of upgrading their operations to take advantage of process optimization solutions. We historically have derived a significant portion of our total revenue from outside of North America, and we believe we can further extend our international presence by penetrating emerging markets.
 
 
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Extend vertical reach and indirect sales channel.  We have historically focused on the energy, chemicals, and engineering and construction industries. We intend to expand beyond our core vertical industries, in part by further developing our indirect channel. We are expanding our relationships with third-party resellers that have a presence in certain non-core verticals such as power, consumer packaged goods, pharmaceuticals, pulp and paper, metals and mining, and biofuels. We believe these relationships will enable us to reach companies in additional process industries cost effectively and to leverage our indirect channel partners’ market experience and domain expertise in those industries.
 
Products
 
Our integrated process optimization software solutions are designed and developed specifically for the process industries. Customers use our solutions to improve their competitiveness and profitability by increasing throughput and productivity, reducing operating costs, enhancing capital efficiency, and decreasing working capital requirements. We have designed and developed our software applications across three principal business areas:
 
 
Engineering.  Our engineering software applications are used during both the design and the ongoing operation of plant facilities to model and improve the way engineers develop and deploy manufacturing assets. Process manufacturers must address a variety of challenges including design, operational improvement, collaborative engineering and economic evaluation. They must, for example, determine where they should locate facilities, how they can lower manufacturing costs, what they should produce and how they can maximize plant efficiency.
 
 
Manufacturing.  Our manufacturing software products focus on optimizing day-to-day processing activities, enabling customers to make better, faster decisions that lead to improved plant performance and operating results. These solutions include desktop and server applications that help customers make real-time decisions, which can reduce fixed and variable costs and improve product yields. Process manufacturers must address a wide range of manufacturing challenges such as optimizing execution efficiency, reducing costs, selecting the right raw materials, scheduling and coordinating production processes, and identifying an appropriate balance between turnaround times, delivery schedules, cost and inventory.
 
 
Supply chain management.  Our supply chain management solutions include desktop and server applications that help customers optimize critical supply chain decisions in order to reduce inventory, increase asset efficiency, and respond more quickly to changing market conditions. Process manufacturers must address numerous challenges as they strive to effectively and efficiently manage raw materials inventory, production schedules and feedstock purchasing decisions. Supply chain managers face these challenges in an environment of ever-changing market prices, supply constraints and customer demands.
 
Our software applications are organized into two suites: aspenONE Engineering and aspenONE Manufacturing and Supply Chain. These suites are integrated applications that allow end users to utilize common data models to design process manufacturing environments, forecast and simulate potential actions, monitor operational performance, and manage planning and scheduling activities. The two suites are designed around core modules and applications that allow customers to design, manage and operate their process manufacturing environments, as shown below:
 
aspenONE Engineering
Business Area
 
aspenOne
Module
 
Major Products
 
Product Description
             
Engineering
 
Engineering
 
Aspen Plus
 
Process modeling software for conceptual design, optimization and performance monitoring for the chemicals industry
       
Aspen HYSYS
 
Process modeling software for conceptual design, optimization and performance monitoring for the energy industry
       
Aspen Exchanger Design and Rating
 
Software used to design, simulate and optimize the performance of heat exchangers
       
Aspen Economic Evaluation
 
Economic evaluation software for estimating costs of conceptual process designs
       
Aspen Basic Engineering
 
Workflow tool that allows engineers to build, re-use and share process models and data
             

 
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aspenONE Manufacturing and Supply Chain
Business Area
 
aspenOne
Module
 
Major Products
 
Product Description
             
Manufacturing
 
Production Management & Execution
 
Aspen Info Plus.21
 
Data historian software that collects and stores large volumes of data for analysis and reporting
   
Advanced Process Control
 
Aspen DMCplus
 
Multi-variable controller software capable of processing multiple constraints simultaneously
             
Supply Chain
 
Planning & Scheduling
 
Aspen Collaborative Demand Manager
 
Enterprise solution for forecasting market demand
       
Aspen Petroleum Scheduler
 
Integrated system that supports comprehensive scheduling and optimization of refinery activities
       
Aspen PIMS
 
Enterprise planning software that optimizes feedstock evaluation, product slate and operational execution
       
Aspen Plant Scheduler
 
Plant scheduling software that optimizes production scheduling
       
Aspen Supply Chain Planner
 
Software for determining what to produce given product demands, inventory, and manufacturing and distribution constraints
   
Supply & Distribution
 
Aspen Inventory Management & Operations Scheduling
 
Enterprise solution that allows users to manage their supply and demand balancing, inventory and scheduling
       
Aspen Petroleum Supply Chain Planner
 
Economic planning tool that solves multi-commodity, multi-period transportation optimization problems
       
Aspen Fleet Optimizer
 
Enterprise solution for inventory management and truck transportation optimization
             
 
Our product development activities are currently focused on strengthening the integration of our applications and adding new capabilities that address specific mission-critical operational business processes in each industry. As of June 30, 2012, we had a total of 454 employees in our products group, which is comprised of product management, software development and quality assurance. We incurred research and development expense of $56.2 million in fiscal 2012, $50.8 million in fiscal 2011 and $48.2 million in fiscal 2010.
 
Maintenance and Training
 
Software maintenance and support consists primarily of providing customer technical support and access to software fixes and upgrades. For term arrangements entered into subsequent to our transition to a subscription-based licensing model, the license and software maintenance and support, or SMS, components cannot be separated, and SMS is included for the term of the arrangement. Customer technical support services are provided throughout the world by our three global call centers as well as via email and through our support website.
 
We offer a variety of training solutions ranging from standardized training, which can be delivered in a public forum, on-site at a customer’s location or over the Internet, to customized training sessions, which can be tailored to fit customer needs. As of June 30, 2012, we had a total of 128 employees in our customer support and training group.
 
Professional Services
 
We offer professional services focused on implementation of our solution. Our professional services team primarily consists of project engineers with degrees in chemical engineering or a similar discipline, or who have significant relevant industry experience. Our employees include experts in fields such as thermophysical properties, distillation, adsorption processes, polymer processes, industrial reactor modeling, the identification of empirical models for process control or analysis, large-scale optimization, supply distribution systems modeling and scheduling methods. The services provided by our professional services team include implementing and integrating our software applications for customers that are seeking to integrate our technology with their existing systems in order to further improve their plant performance and gain better operational data. We offer our services on either a time-and-materials or fixed-price basis. As of June 30, 2012, we had a total of 162 employees in our professional services group.
 
 
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Business Segments
 
We have three operating segments: license; SMS, training, and other; and professional services. Our chief operating decision maker, the President and Chief Executive Officer, assesses financial performance and allocates resources based upon the three lines of business. For further information of our operating segments, see Note 12, “Segment and Geographic Information,” to our Consolidated Financial Statements, included in “Item 15. Exhibits and Financial Statement Schedules” of this Form 10-K.
 
Sales and Marketing
 
We employ a value-based sales approach, offering our customers a comprehensive suite of software and services that enhance the efficiency and productivity of their engineering, manufacturing and supply chain operations. We have increasingly focused on selling our products as a strategic investment for our customers and therefore devote an increasing portion of our sales efforts at senior management levels, including senior decision makers in manufacturing, operations and technology. Our aspenONE solution strategy supports this value-based approach by broadening the scope of optimization across the entire enterprise and expanding the use of process models in the operations environment. In particular, we offer a variety of training programs focused on illustrating the capabilities of our applications as well as online training built into our applications. We have implemented incentive compensation programs for our sales force that reward efforts that increase customer usage of our products.
 
In July 2009, we introduced our aspenONE licensing model under which customers receive access to all of the applications within the aspenONE suite(s) they license, including the right to any new unspecified future software products and updates that may be introduced into the licensed aspenONE software suite. This affords customers the ability to use our software whenever required and to experiment with different applications to best solve whatever critical business challenges they face. Customers can easily increase their usage of our software as their business requirements evolve. We believe our aspenONE licensing model will further enable our sales force to develop consultative sales relationships with our customers.
 
Historically, most of our license sales have been generated through our direct sales force. In order to market the specific functionality and other technical features of our software, our account managers work with specialized teams of technical sales personnel and product specialists organized for each sales and marketing effort. Our technical sales personnel typically have degrees in chemical engineering or related disciplines and actively consult with a customer’s plant engineers. Product specialists share their detailed knowledge of the specific features of our software solutions as they apply to the unique business processes of different vertical industries. In addition, we have a limited number of global account managers, each of whom is focused on a specific global account. Our overall sales force, which consists of sales account managers, technical sales personnel, indirect channel personnel, inside sales personnel, and marketing personnel, consisted of 375 employees as of June 30, 2012.
 
We supplement our direct sales efforts with a variety of marketing initiatives, including industry analyst and public relations activities, campaigns to promote awareness, user group meetings and customer relationship programs. We have established reseller relationships with select companies that we believe can help us increase sales in specific regions and non-core target markets.
 
We also license our software products to universities that agree to use our products in teaching and research. We believe that students’ familiarity with our products will stimulate future demand once the students enter the workplace.
 
Competition
 
Our markets in general are competitive, and we expect the intensity of competition in our markets to increase as existing competitors enhance and expand their product and service offerings and as new participants enter the market. Increased competition may result in price reductions, reduced profitability and loss of market share. We cannot ensure that we will be able to compete successfully against existing or future competitors. Some of our customers and companies with which we have strategic relationships also are, or may become, competitors.
 
Many of our current and potential competitors have greater financial, technical, marketing, service and other resources than we have. As a result, these companies may be able to offer lower prices, additional products or services, or other incentives that we cannot match or offer. These competitors may be in a stronger position to respond more quickly to new technologies and may be able to undertake more extensive marketing campaigns. We believe they also have adopted and may continue to pursue more aggressive pricing policies and make more attractive offers to potential customers, employees and strategic partners. For example, some competitors may be able to initiate relationships through sales and installations of hardware and then seek to expand their customer relationships by offering process optimization software at a discount.
 
 
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In addition, competitors with greater financial resources may make strategic acquisitions to increase their ability to gain market share or improve the quality or marketability of their products.
 
Our primary competitors differ among our principal product areas:
 
 
Our engineering software competes with products of businesses such as ABB Ltd., Honeywell International, Inc., Invensys plc and KBC Advanced Technologies plc.
 
 
Our manufacturing software competes with products of companies such as ABB Ltd., Honeywell International, Inc., Invensys plc, OSIsoft, Inc., Rockwell Automation, Inc., Siemens AG and Yokogawa Electric Corporation.
 
 
Our supply chain management software competes with products of companies such as JDA Software Group, Inc., Oracle Corporation and SAP AG.
 
In addition, we face challenges in selling our solutions to large companies in the process industries that have internally developed their own proprietary software solutions.
 
We believe our key competitive differentiator is the profitability improvement that our software and services provide for our customers. We seek to develop and offer integrated suites of targeted, high-value vertical industry solutions that can be implemented with relatively limited service requirements. We believe this approach provides us with an advantage over many of our competitors that offer software products that are point solutions or are more service-based. The principal competitive factors in our industry also include:
 
 
breadth, depth and integration of software offerings;
 
 
domain expertise of sales and service personnel;
 
 
consistent global support;
 
 
performance and reliability;
 
 
price; and
 
 
time to market.
 
Key License Agreements
 
Honeywell
 
We acquired Hyprotech Ltd. and related subsidiaries of AEA Technology plc in May 2002. The Federal Trade Commission alleged in an administrative complaint filed in August 2003 that this acquisition was improperly anticompetitive. In December 2004, we entered into a consent decree with the FTC to resolve the matter. In connection with the consent decree, we and certain of our subsidiaries entered into a purchase and sale agreement with Honeywell International Inc. and certain of its subsidiaries, pursuant to which we sold intellectual property and other assets to Honeywell relating to our operator training business and our Hyprotech engineering software products.
 
Under the terms of the transactions:
 
 
we retained a perpetual, irrevocable, worldwide, royalty-free non-exclusive license (with the limited rights to sublicense) to the Hyprotech engineering software and have the right to continue to develop and sell the Hyprotech engineering products; and
 
 
we retained certain agreements with third parties other than customers or distributors for HYSYS and related products.
 
 
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We are subject to ongoing compliance obligations under the FTC consent decree. Under a modification order that became final in August 2009, we are required to continue to provide the ability for users to save input variable case data for Aspen HYSYS and Aspen HYSYS Dynamics software in a standard “portable” format, which will make it easier for users to transfer case data from later versions of the products to earlier versions. We also must provide documentation to Honeywell of the Aspen HYSYS and Aspen HYSYS Dynamics input variables, as well as documentation of the covered heat exchange products. These requirements will apply to all existing and future versions of the covered products released prior to December 31, 2014 or December 31, 2016, at the option of Honeywell. In addition, we provided to Honeywell a license to modify and distribute (in object code form) certain versions of our flare system analyzer software.
 
There is no assurance that the actions required by the FTC’s modified order and related settlement with Honeywell will not provide Honeywell with additional competitive advantages that could materially adversely affect our results of operations.
 
Massachusetts Institute of Technology
 
In March 1982, we entered into a System License Agreement with the Massachusetts Institute of Technology. Pursuant to this agreement, MIT granted us a perpetual license to a program that provides a framework for simulating the steady-state behavior of chemical processes that we utilize in the simulation engine of our AspenPlus software product. The license provides that we own any derivative works and enhancements of the licensed program that we create. The license is fully paid up, and will continue in effect unless terminated for specified cause. Sublicenses granted to our customers would not be affected by any such termination.
 
Intellectual Property
 
Our software is proprietary. Our strategy is to rely on a combination of copyright, patent, trademark and trade secret laws in the United States and other jurisdictions, and to rely on license and confidentiality agreements and software security measures to further protect our proprietary technology and brand. The laws of many countries in which our products are licensed may not protect our intellectual property rights to the same extent as the laws of the United States.
 
We have obtained or applied for patent protection with respect to some of our intellectual property, but generally do not rely on patents as a principal means of protecting intellectual property. As of June 30, 2012, we owned 32 patents issued in the United States and had 22 patent applications pending in the United States and foreign counterparts.
 
We conduct business under our trademarks and use trademarks on some of our products. We believe that having distinctive marks may be an important factor in marketing our products. We have registered or applied to register some of our significant trademarks in the United States and in selected other countries. Although we have a foreign trademark registration program for selected marks, the laws of many countries protect trademarks solely on the basis of registration and we may not be able to register or use such marks in each foreign country in which we seek registration. We actively monitor use of our trademarks and have enforced, and will continue to enforce, our rights to our trademarks.
 
We rely on trade secrets to protect certain of our technology. We generally seek to protect these trade secrets by entering into non-disclosure agreements with our employees and customers, and historically have restricted access to our software and source code, which we regard as proprietary information. In certain cases, we have provided copies of code to customers for the purpose of special product customization or have deposited the source code with a third-party escrow agent as security for ongoing service and license obligations. In these cases, we rely on non-disclosure and other contractual provisions to protect our proprietary rights. Trade secrets may be difficult to protect, and it is possible that parties may breach their confidentiality agreements with us.
 
The steps we have taken to protect our proprietary rights may not be adequate to deter misappropriation of our technology or independent development by others of technologies that are substantially equivalent or superior to our technology. Any misappropriation of our technology or development of competitive technologies could harm our business. We could incur substantial costs in protecting and enforcing our intellectual property rights.
 
Third parties have asserted, and may assert in the future, claims that our products infringe patents or patent applications under which we do not hold licenses or other rights. Third parties may own or control these patents and patent applications in the United States and abroad. These third parties have brought, and could in the future bring, claims against us that would cause us to incur substantial expenses and, if successfully asserted against us, could cause us to pay substantial damages. Further, if a patent infringement suit were brought against us, we could be forced to stop or delay manufacturing or sales of the product that is the subject of the suit before or after the suit is decided on the merits. In addition, we could be forced to redesign a product that uses an allegedly infringing technology. The cost to us of any patent litigation or other proceeding, even if resolved in our favor, could be substantial and may require significant commitments of time by our management.
 
 
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We believe that the success of our business depends more on the quality of our proprietary software products, technology, processes and know-how than on trademarks, copyrights or patents. While we consider our intellectual property rights to be valuable, we do not believe that our competitive position in the industry is dependent simply on obtaining legal protection for our software products and technology. Instead, we believe that the success of our business depends primarily on our ability to maintain a leadership position by developing proprietary software products, technology, information, processes and know-how. Nevertheless, we attempt to protect our intellectual property rights with respect to our products and development processes through trademark, copyright and patent registrations, both foreign and domestic, whenever appropriate as part of our ongoing research and development activities.
 
Employees
 
As of June 30, 2012, we had a total of 1,325 full-time employees, of whom 710 were located in the United States.  None of our employees is represented by a labor union, except for 9 employees of our subsidiary Hyprotech UK Limited who belong to the Prospect union for professionals. We have experienced no work stoppages and believe that our employee relations are satisfactory.
 
Corporate Information
 
Aspen Technology, Inc. was formed in Massachusetts in 1981 and reincorporated in Delaware in 1998. Our principal executive offices are at 200 Wheeler Road, Burlington, MA 01803, and our telephone number at that address is (781) 221-6400. Our website address is http://www.aspentech.com. The information on our website is not part of this Form 10-K, unless expressly noted.
 
Available Information
 
Our website address is http://www.aspentech.com. Information contained on our website is not incorporated by reference into this Form 10-K unless expressly noted. We file reports with the Securities and Exchange Commission, or the SEC, which we make available on our website free of charge. These reports include annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to such reports, each of which is provided on our website as soon as reasonably practicable after we electronically file such materials with or furnish them to the SEC. You can also read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, DC 20549. You can obtain additional information about the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. In addition, the SEC maintains a website (http://www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC, including us.
 
 
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Item 1A.   Risk Factors.
 
Investing in our common stock involves a high degree of risk. You should carefully consider the risks and uncertainties described below before purchasing our common stock. The risks and uncertainties described below are not the only ones facing our company. Additional risks and uncertainties may also impair our business operations. If any of the following risks actually occurs, our business, financial condition, results of operations or cash flows would likely suffer. In that case, the trading price of our common stock could fall, and you may lose all or part of your investment in our common stock.
 
Risks Related to Our Business
 
If we fail to develop new software products, enhance existing products and services, or penetrate new vertical markets, we will be unable to implement our growth strategy successfully and our business could be seriously harmed.
 
The maintenance and extension of our market leadership and our future growth is largely dependent upon our ability to develop new software products that achieve market acceptance with acceptable operating margins. Enterprises are requiring their application software vendors to provide greater levels of functionality and broader product offerings. We must continue to enhance our current product line and develop and introduce new products and services that keep pace with increasingly sophisticated customer requirements and the technological developments of our competitors. Our business and operating results could suffer if we cannot successfully respond to the technological advances of competitors, or if our new products or product enhancements and services do not achieve market acceptance.
 
We have implemented a product strategy that unifies our software solutions under the aspenONE brand with differentiated aspenONE vertical solutions targeted at specific process industry segments. We cannot ensure that our product strategy will result in products that will continue to meet market needs and achieve significant market acceptance. If we fail to introduce new products that meet the demands of our customers or our target markets, or if we fail to penetrate new vertical markets in the process industries, our operating results and cash flows from operations will grow at a slower rate than we anticipate and our financial condition could suffer.
 
Our business could suffer if the demand for, or usage of, our aspenONE software declines for any reason, including declines due to adverse changes in the process industries.
 
Our aspenONE suites account for a significant majority of our revenue and will continue to do so for the foreseeable future. If demand for, or usage of, our software declines for any reason, our operating results, cash flows from operations and financial position would suffer. Our business could be adversely affected by:
 
any decline in demand for or usage of our aspenONE suites;

the introduction of products and technologies that serve as a replacement or substitute for, or represent an improvement over, our aspenONE suites;

technological innovations that our aspenONE suites do not address; and

our inability to release enhanced versions of our aspenONE suites on a timely basis.

adverse changes in the process industries that lead to reductions, postponements or cancellations of customer purchases of our products and services.
 
Because of the nature of their products and manufacturing processes and their global operations, companies in the process industries are subject to risk of adverse or even catastrophic environmental, safety and health accidents or incidents and are often subject to changing standards and regulations worldwide.
 
In addition, in the past, worldwide economic downturns and pricing pressures experienced by energy, chemical, pharmaceutical and other process industries have led to consolidations and reorganizations.
 
Any such adverse environmental, safety or health incident, change in regulatory standards, or economic downturn that affects the process industries, as well as general domestic and foreign economic conditions and other factors that reduce spending by companies in these industries, could harm our operating results in the future.
 
 
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Unfavorable economic and market conditions or a lessening demand in the market for process optimization software could adversely affect our operating results.
 
Our business is influenced by a range of factors that are beyond our control and difficult or impossible to predict. If the market for process optimization software grows more slowly than we anticipate, demand for our products and services could decline and our operating results could be impaired. Further, the state of the global economy may deteriorate in the future. Our operating results may be adversely affected by unfavorable global economic and market conditions as well as a lessening demand for process optimization software generally.
 
Customer demand for our products is linked to the strength of the global economy. If weakness in the global economy persists, many customers may delay or reduce technology purchases. This could result in reductions in sales of our products, longer sales cycles, slower adoption of new technologies, increased price competition or reduced use of our products by our customers. We will lose revenue if demand for our products is reduced because potential customers experience weak or deteriorating economic conditions, catastrophic environmental or other events, and our business, results of operations, financial condition and cash flow from operations would likely be adversely affected.
 
The majority of our revenue is attributable to operations outside the United States, and our operating results therefore may be materially affected by the economic, political, regulatory and other risks of foreign operations.
 
As of June 30, 2012, we operated in 30 countries. We sell our products primarily through a direct sales force located throughout the world. In the event that we are unable to adequately staff and maintain our foreign operations, we could face difficulties managing our international operations.
 
Customers outside the United States accounted for the majority of our total revenue in fiscal 2012 and in fiscal 2011. We anticipate that revenue from customers outside the United States will continue to account for a significant portion of our total revenue for the foreseeable future. Our operations outside the United States are subject to additional risks, including:
 
unexpected changes in regulatory requirements, exchange rates, tariffs and other barriers;

less effective protection of intellectual property;

requirements of foreign laws and other governmental controls;

difficulties and delays in translating products and product documentation into languages other than English;

difficulties and delays in negotiating software licenses compliant with accounting revenue recognition requirements in the United States;

difficulties in collecting trade accounts receivable in other countries;

adverse tax consequences; and

the challenges of managing legal disputes in foreign jurisdictions.
 
 
Fluctuations in foreign currency exchange rates could result in declines in our reported revenue and operating results.
 
In fiscal 2012, 21.6% of our total revenue was denominated in a currency other than the U.S. dollar. In addition, certain of our operating expenses incurred outside the United States are denominated in currencies other than the U.S. dollar. Our reported revenue and operating results are subject to fluctuations in foreign exchange rates. Foreign currency risk arises primarily from the net difference between non-U.S. dollar receipts from customers outside the United States and non-U.S. dollar operating expenses for subsidiaries in foreign countries. Currently, our largest exposures to foreign exchange rates exist primarily with the Euro, Pound Sterling, Canadian dollar and Japanese Yen against the U.S. dollar. Since late fiscal 2008, we have not entered into derivative financial instruments, such as forward currency exchange contracts, intended to manage the volatility of these market risks. We cannot predict the impact of foreign currency fluctuations, and foreign currency fluctuations in the future may adversely affect our revenue and operating results. Any hedging policies we may implement in the future may not be successful, and the cost of those hedging techniques may have a significant negative impact on our operating results.
 
 
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Competition from software offered by current competitors and new market entrants, as well as from internally developed solutions by our customers, could adversely affect our ability to sell our software products and related services and could result in pressure to price our products in a manner that reduces our margins.
 
Our markets in general are competitive and differ among our principal product areas: engineering, manufacturing, and supply chain management. Our engineering software competes with products of businesses such as ABB Ltd., Honeywell International, Inc., Invensys plc and KBC Advanced Technologies plc. Our manufacturing software competes with products of companies such as ABB Ltd., Honeywell International, Inc., Invensys plc, OSIsoft, Inc., Rockwell Automation, Inc., Siemens AG and Yokogawa Electric Corporation. Our supply chain management software competes with products of companies such as JDA Software Group, Inc., Oracle Corporation and SAP AG. In addition, we face challenges in selling our solutions to large companies in the process industries that have internally developed their own proprietary software solutions.
 
Many of our current and potential competitors have greater financial, technical, marketing, service and other resources than we have. As a result, these companies may be able to offer lower prices, additional products or services, or other incentives that we cannot match or offer. These competitors may be in a stronger position to respond more quickly to new technologies and may be able to undertake more extensive marketing campaigns. We believe they also have adopted and may continue to pursue more aggressive pricing policies and make more attractive offers to potential customers, employees and strategic partners. For example, some competitors may be able to initiate relationships through sales and installations of hardware and then seek to expand their customer relationships by offering process optimization software at a discount. In addition, many of our competitors have established, and may in the future continue to establish, cooperative relationships with third parties to improve their product offerings and to increase the availability of their products in the marketplace. Competitors with greater financial resources may make strategic acquisitions to increase their ability to gain market share or improve the quality or marketability of their products.
 
Competition could seriously impede our ability to sell additional software products and related services on terms favorable to us. Businesses may continue to enhance their internally developed solutions, rather than investing in commercial software such as ours. Our current and potential commercial competitors may develop and market new technologies that render our existing or future products obsolete, unmarketable or less competitive. In addition, if these competitors develop products with similar or superior functionality to our products, we may need to decrease the prices for our products in order to remain competitive. If we are unable to maintain our current pricing due to competitive pressures, our margins will be reduced and our operating results will be negatively affected. We cannot ensure that we will be able to compete successfully against current or future competitors or that competitive pressures will not materially adversely affect our business, financial condition and operating results.
 
Defects or errors in our software products could harm our reputation, impair our ability to sell our products and result in significant costs to us.
 
Our software products are complex and may contain undetected defects or errors. We have not suffered significant harm from any defects or errors to date, but we have from time to time found defects in our products and we may discover additional defects in the future. We may not be able to detect and correct defects or errors before releasing products. Consequently, we or our customers may discover defects or errors after our products have been implemented. We have in the past issued, and may in the future need to issue, corrective releases of our products to remedy defects or errors. The occurrence of any defects or errors could result in:
 
lost or delayed market acceptance and sales of our products;

delays in payment to us by customers;

product returns;

injury to our reputation;

diversion of our resources;

increased service and warranty expenses or financial concessions;

increased insurance costs; and

legal claims, including product liability claims.
 
Defects and errors in our software products could result in claims for substantial damages against us.
 
 
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We may be subject to significant expenses and damages because of pending liability claims and other claims related to our products and services.
 
The sale and implementation of certain of our software products and services, particularly in the areas of advanced process control and supply chain management, entail the risk of product liability claims and associated damages. Our software products and services are often integrated with our customers' networks and software applications and are used in the design, operation and management of manufacturing and supply chain processes at large facilities, often for mission critical applications.
 
Any errors, defects, performance problems or other failures of our software could result in significant liability to us for damages or for violations of environmental, safety and other laws and regulations. Our software products and implementation services could give rise to warranty and other claims. In the ordinary course of business, we are from time to time involved in lawsuits or claims relating to our products or services. These matters include an April 2004 claim by a customer for approximately $5.0 million that certain of our software products and implementation services failed to meet the customer's expectations. We are unable to determine whether resolution of any of these matters will have a material adverse impact on our financial position, cash flows or results of operations, or, in many cases, reasonably estimate the amount of the loss, if any, that may result from the resolution of these matters.
 
Our agreements with customers generally contain provisions designed to limit our exposure to potential product liability claims. It is possible, however, that the limitation of liability provisions in our agreements may not be effective as a result of federal, foreign, state or local laws or ordinances or unfavorable judicial decisions. A substantial product liability judgment against us could materially and adversely harm our operating results and financial condition. Even if our software is not at fault, a product liability claim brought against us could be time-consuming, costly to defend and harmful to our operations and reputation.
 
If we fail to comply or are deemed to have failed to comply with our ongoing Federal Trade Commission, or FTC, consent decree, our business may suffer.
 
In December 2004, we entered into a consent decree with the FTC with respect to a civil administrative complaint filed by the FTC in August 2003 alleging that our acquisition of Hyprotech Ltd. and related subsidiaries of AEA Technology plc in May 2002 was anticompetitive in violation of Section 5 of the Federal Trade Commission Act and Section 7 of the Clayton Act. In July 2009, we announced that the FTC closed an investigation relating to the alleged violations of the decree, and issued an order modifying the consent decree, which became final in August 2009. We are subject to ongoing compliance obligations under the FTC consent decree. There is no assurance that the actions required by the FTC's modified order and related settlement with Honeywell International, Inc. will not require significant attention and resources of management, which could have a material adverse effect on our business. Further, if we fail to comply, or are deemed to have failed to comply, with such consent decree, our business may suffer.
 
Third-party claims that we infringe the intellectual property rights of others may be costly to defend or settle and could damage our business.
 
We cannot be certain that our software and services do not infringe issued patents, copyrights, trademarks or other intellectual property rights of third parties. Litigation regarding intellectual property rights is common in the software industry, and we may be subject to legal proceedings and claims from time to time, including claims of alleged infringement of intellectual property rights of third parties by us or our licensees concerning their use of our software products and integration technologies and services. Third parties may bring claims of infringement against us. Because our software is integrated with our customers' networks and business processes, as well as other software applications, third parties may bring claims of infringement against us, as well as our customers and other software suppliers, if the cause of the alleged infringement cannot easily be determined.
 
 
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Claims of alleged infringement may have a material adverse effect on our business and may discourage potential customers from doing business with us on acceptable terms, if at all. Defending against claims of infringement may be time-consuming and may result in substantial costs and diversion of resources, including our management's attention to our business. Furthermore, a party making an infringement claim could secure a judgment that requires us to pay substantial damages. A judgment could also include an injunction or other court order that could prevent us from selling our software or require that we re-engineer some or all of our products. Claims of intellectual property infringement also might require us to enter costly royalty or license agreements. We may be unable to obtain royalty or license agreements on terms acceptable to us or at all. Our business, operating results and financial condition could be harmed significantly if any of these events occurred, and the price of our common stock could be adversely affected. Furthermore, former employers of our current and future employees may assert that our employees have improperly disclosed confidential or proprietary information to us. In addition, we have agreed, and may agree in the future, to indemnify certain of our customers against claims that our software infringes upon the intellectual property rights of others. Although we carry general liability insurance, our current insurance coverage may not apply to, and likely would not protect us from, liability that may be imposed under any of the types of claims described above.
 
We may not be able to protect our intellectual property rights, which could make us less competitive and cause us to lose market share.
 
Our software is proprietary. Our strategy is to rely on a combination of copyright, patent, trademark and trade secret laws in the United States and other jurisdictions, and to rely on license and confidentiality agreements and software security measures to further protect our proprietary technology and brand. We have obtained or applied for patent protection with respect to some of our intellectual property, but generally do not rely on patents as a principal means of protecting our intellectual property. We have registered or applied to register some of our trademarks in the United States and in selected other countries. We generally enter into non-disclosure agreements with our employees and customers, and historically have restricted third-party access to our software and source code, which we regard as proprietary information. In certain cases, we have provided copies of source code to customers for the purpose of special product customization or have deposited copies of the source code with a third party escrow agent as security for ongoing service and license obligations. In these cases, we rely on non-disclosure and other contractual provisions to protect our proprietary rights.
 
The steps we have taken to protect our proprietary rights may not be adequate to deter misappropriation of our technology or independent development by others of technologies that are substantially equivalent or superior to our technology. Our intellectual property rights may expire or be challenged, invalidated or infringed upon by third parties or we may be unable to maintain, renew or enter into new licenses on commercially reasonable terms. Any misappropriation of our technology or development of competitive technologies could harm our business and could diminish or cause us to lose the competitive advantages associated with our proprietary technology, and could subject us to substantial costs in protecting and enforcing our intellectual property rights, including costs of proceedings we have instituted to enforce our intellectual property rights, such as those described in "Item 3. Other Proceedings," and/or temporarily or permanently disrupt our sales and marketing of the affected products or services. The laws of some countries in which our products are licensed do not protect our intellectual property rights to the same extent as the laws of the United States. Moreover, in some non-U.S. countries, laws affecting intellectual property rights are uncertain in their application, which can affect the scope of enforceability of our intellectual property rights.
 
Our ability to raise capital in the future may be limited, and our failure to raise capital when needed could prevent us from executing our business plan.
 
We expect that our current cash and cash equivalents and cash flows from operations will be sufficient to meet our anticipated cash needs for at least the next twelve months. We may need to obtain additional financing thereafter or earlier, however, if our current plans and projections prove to be inaccurate or our expected cash flows prove to be insufficient to fund our operations because of lower-than-expected revenue, unanticipated expenses or other unforeseen difficulties.
 
Our ability to obtain additional financing will depend on a number of factors, including market conditions, our operating performance, the quality of our receivables, and the availability of capital in the credit markets. These factors may make the timing, amount, terms and conditions of any financing unattractive. If adequate funds are not available, or are not available on acceptable terms, we may have to forego strategic acquisitions or other investments.
 
 
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Risks Related to Our Common Stock
 
Our common stock may experience substantial price and volume fluctuations.
 
The equity markets have from time to time experienced extreme price and volume fluctuations, particularly in the high technology sector, and those fluctuations often have been unrelated to the operating performance of particular companies. In addition, factors such our aspenONE licensing model, our financial performance, announcements of technological innovations or new products by us or our competitors, and market conditions in the computer software or hardware industries, may have a significant impact on the market price of our common stock.
 
In the past, following periods of volatility in the market price of a public company's securities, securities class action litigation has often been instituted against that company. This type of litigation against us could result in substantial liability and costs and divert management's attention and resources.
 
Our corporate documents and provisions of Delaware law may prevent a change in control or management that stockholders may consider desirable.
 
Section 203 of the Delaware General Corporation Law, our charter and our by-laws contain provisions that might enable our management to resist a takeover of our company. These provisions include:
 
limitations on the removal of directors;

a classified board of directors, so that not all members of the board are elected at one time;

advance notice requirements for stockholder proposals and nominations;

the inability of stockholders to act by written consent or to call special meetings;

the ability of the board to make, alter or repeal our by-laws; and

the ability of the board to designate the terms of and issue new series of preferred stock without stockholder approval.
 
These provisions could:
 
have the effect of delaying, deferring or preventing a change in control of our company or a change in our management that stockholders may consider favorable or beneficial;

discourage proxy contests and make it more difficult for stockholders to elect directors and take other corporate actions; and

limit the price that investors might be willing to pay in the future for shares of our common stock.
 
Item 1B.    Unresolved Staff Comments.
 
None.
 
Item 2.       Properties.
 
Our principal executive offices are located in leased facilities in Burlington, Massachusetts, consisting of approximately 75,000 square feet of office space. Our lease expires on January 31, 2015. These facilities accommodate our product development, sales, marketing, operations and finance and administrative functions. Subject to the terms and conditions of the lease, we may extend the term of the lease for two successive terms of five years each at 95% of the then-current market rate. As of June 30, 2012, under the lease, we had total future non-cancelable lease obligations of $5.5 million. We also will pay additional rent for our proportionate share of operating costs and taxes.
 
Prior to September 1, 2007, our principal offices occupied 110,843 square feet of office space in Cambridge, Massachusetts. The lease for this office space expires on September 30, 2012. As of June 30, 2012, we had multiple agreements, which expire on September 30, 2012, to sublease the former office space. We also lease 76,315 square feet in Houston, Texas for a term that expires in July 2016. Approximately 8,000 square feet of the Houston space has been subleased. In addition to our Burlington and Houston locations, we also lease office space in Shanghai, Reading (UK), Singapore and Tokyo to accommodate sales, services and product development functions.
 
In the remainder of our other locations, the majority of our leases have lease terms of one year or less that are generally based on the number of workstations required. We believe this facilities strategy provides us with significant flexibility to adjust to changes in our business environment. We do not own any real property. We believe that our leased facilities are adequate for our anticipated future needs.
 
 
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Item 3.       Legal Proceedings.
 
ATME Arbitration and Litigation
 
Prior to October 6, 2009, we had an exclusive reseller relationship covering certain countries in the Middle East with AspenTech Middle East W.L.L., a Kuwaiti corporation (now known as Advanced Technology Middle East W.L.L.) that we refer to below as ATME. Effective October 6, 2009, we terminated the reseller relationship for material breach by ATME. Arbitration against ATME in the International Court of Arbitration of the International Chamber of Commerce, captioned Aspen Technology, Inc. v. AspenTech Middle East W.L.L., Case No. 16732/VRO followed termination of the reseller agreement.
 
On July 30, 2012 the Arbitral Tribunal issued a partial final award in our favor concluding that we acted lawfully in terminating the reseller agreement. The Tribunal concluded that ATME is liable to pay us damages of approximately $20 million, including interest, and approximately $5 million in costs. The award is final and binding, although the Tribunal has reserved certain other residual claims by us against ATME for subsequent determination by the Tribunal if required. Any potential financial impact related to this matter was not recorded during the fiscal year ended June 30, 2012.
 
On March 11, 2010, a Kuwaiti entity (known as ATME Group and affiliated with ATME) filed a lawsuit in a Kuwaiti court naming as defendants ATME, us and a reseller newly appointed by us in Kuwait. In this lawsuit, ATME Group claims that it was an exclusive reseller for ATME in Kuwait and that it therefore is entitled to damages relating to termination of its purported status as a reseller and to purported customer contracts in Kuwait. We intend to defend this action vigorously.
 
Other Proceedings
 
In July 2010 we filed an action against M3 Technology, Inc. (M3) for misappropriation of our trade secrets, infringement of our copyrights, and tortious interference in an action that we commenced in the U.S. District Court for the Southern District of Texas. The jury returned a verdict in our favor on May 18, 2012, and a final judgment and permanent injunction was entered on June 6, 2012. The permanent injunction prohibits M3 from using, marketing, selling, distributing, licensing, modifying, servicing, copying, or offering for sale or license versions of the following products: SIMTO Scheduling/M-Blend/Global; SIMTO Scheduling/M-Blend; SIMTO Scheduling; and SIMTO Distribution. In addition, M3 was ordered to pay us the sum of $11,346,329 in damages. M3 filed a Notice of Appeal on June 7, 2012, and has petitioned for bankruptcy relief in proceedings pending in the U.S. Bankruptcy Court for the Southern District of Texas (Case 12-3444).
 
In addition, we are also from time to time involved in other lawsuits, claims, investigations, proceedings and threats of litigation. These include an April 2004 claim by a customer for approximately $5.0 million that certain of our software products and implementation services failed to meet the customer's expectations.
 
The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of litigation fees and costs, diversion of management resources and other factors.
 
 
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Item 4.       Mine Safety Disclosures
 
None
 
 
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PART II
 
Item 5.       Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
 
Market Information
 
Our common stock currently trades on The NASDAQ Global Select Market under the symbol “AZPN.” The closing price of our common stock on June 30, 2012 was $23.15. The following table sets forth, for the periods indicated, the high and low sales prices per share of our common stock as reported by The NASDAQ Global Select Market:
 
   
2012
   
2011
 
Period
 
Low
   
High
   
Low
   
High
 
                         
Quarter ended June 30
  $ 19.01     $ 23.15     $ 14.38     $ 17.18  
Quarter ended March 31
    16.41       21.61       13.02       16.00  
Quarter ended December 31
    14.67       18.66       10.62       13.28  
Quarter ended September 30 
    12.75       17.78       9.34       11.32  
                                 
 
Holders
 
On August 15, 2012, there were 693 holders of record of our common stock. The number of record holders does not include persons who held our common stock in nominee or “street name” accounts through brokers.
 
Dividends
 
We have never declared or paid cash dividends on our common stock. We do not anticipate paying cash dividends on our common stock in the foreseeable future. Any future determination relating to our dividend policy will be made at the discretion of the Board of Directors and will depend on a number of factors, including our future earnings, capital requirements, financial condition and future prospects and such other factors as the Board of Directors may deem relevant.
 
Purchases of Equity Securities by the Issuer
 
As of June 30, 2012, we had repurchased an aggregate of 3,197,625 shares of our common stock pursuant a series of repurchases beginning on November 1, 2010.
 
On November 1, 2011, our Board of Directors approved a share repurchase program for up to $100 million of our common stock. This replaced the prior share repurchase program approved by the Board of Directors on October 29, 2010 for up to $40 million.
 
The following table sets forth, for the month indicated, our purchases of common stock during the fourth quarter of fiscal 2012:
 
                         
Issuer Purchases of Equity Securities
 
Period
 
Total Number
of Shares
Purchased
   
Average Price
Paid per Share
   
Total Number of
Shares Purchased
as Part of Publicly
Announced
Program
   
Approximate Dollar
Value of Shares that
May Yet Be
Purchased Under
the Program
 
                         
April 1 to 30, 2012
    200,500     $ 19.85       200,500       -  
May 1 to 31, 2012
    227,600     $ 21.84       227,600       -  
June 1 to 30, 2012
    231,100     $ 21.72       231,100       66,398,734  
      659,200     $ 21.20       659,200     $ 66,398,734  
                                 

 
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Securities Authorized for Issuance Under Equity Compensation Plans
 
The following table provides information about the securities authorized for issuance under our equity compensation plans as of June 30, 2012:
 
                   
Period
 
Number of securities to be
issued upon exercise of
outstanding options,
warrants and rights
   
Weighted-average
exercise price of
outstanding options,
warrants and rights
   
Number of securities remaining
available for future issuance under
equity compensation plans
 
                   
Equity compensation plans approved by security holders
    5,507,336     $ 9.92       5,457,721  
Equity compensation plans not approved by security holders
    -     $ -       -  
Total
    5,507,336     $ 9.92       5,457,721  
                         
 
Equity compensation plans approved by security holders consist of our 2005 stock incentive plan and our 2010 equity incentive plan.
 
The securities remaining available for future issuance under equity compensation plans approved by our security holders as of June 30, 2012 consisted of:
 
 
349,702 shares of common stock issuable under our 2005 stock incentive plan; and
 
 
5,108,019 shares of common stock issuable under our 2010 equity incentive plan.
 
Options issuable under the 2005 stock incentive plan have a maximum term of seven years. Options issuable under the 2010 equity incentive plan have a maximum term of ten years.
 
Stockholder Return Comparison
 
The information included in this section is not deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C under the Securities Exchange Act or to the liabilities of Section 18 of the Securities Exchange Act, and will not be deemed to be incorporated by reference into any filing under the Securities Act or the Securities Exchange Act, except to the extent we specifically incorporate it by reference into such a filing.
 
The graph below matches the cumulative 5-year total return of holders of Aspen Technology, Inc.’s common stock with the cumulative total returns of the NASDAQ Composite index and the NASDAQ Computer & Data Processing index. The graph assumes that the value of the investment in our common stock and in each of the indexes (including reinvestment of dividends) was $100 on June 30, 2007 and tracks it through June 30, 2012.
 
 
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Graph
 
The stock price performance included in this graph is not necessarily indicative of future stock price performance.
 
   
Fiscal Year Ended June 30,
 
   
2007
   
2008
   
2009
   
2010
   
2011
   
2012
 
                                     
Aspen Technology, Inc.
    100.00       95.00       60.93       77.79       122.71       165.36  
NASDAQ Composite
    100.00       84.54       73.03       82.88       110.33       115.30  
NASDAQ Computer & Data Processing
    100.00       94.64       81.56       86.76       116.98       120.85  
                                                 
 
Item 6.      Selected Financial Data.
 
The following table presents selected consolidated financial and other data for Aspen Technology, Inc. The consolidated statements of operations data set forth below for fiscal 2012, 2011 and 2010 and the consolidated balance sheets data as of June 30, 2012, and 2011, are derived from our Consolidated Financial Statements included beginning on page F-1 of this Form 10-K. The consolidated statements of operations data for fiscal 2009 and 2008 and the consolidated balance sheets data as of June 30, 2010, 2009, and 2008 are derived from our consolidated financial statements that are not included in this Form 10-K. The data presented below should be read in conjunction with our Consolidated Financial Statements and accompanying notes beginning on page F-1 and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
 
   
Year Ended June 30,
 
   
2012
   
2011
   
2010
   
2009
   
2008
 
   
(Dollars in Thousands, except per share data)
 
Consolidated Statements of Operations Data:
                             
Revenue (1)
  $ 243,134     $ 198,154     $ 166,344     $ 311,580     $ 311,613  
Gross profit
    190,857       145,809       100,234       235,760       226,620  
(Loss) income from operations
    (15,007 )     (54,576 )     (109,370 )     43,934       18,637  
Net (loss) income (2)
  $ (13,808 )   $ 10,257     $ (107,445 )   $ 52,924     $ 24,946  
Basic (loss) income per share
  $ (0.15 )   $ 0.11     $ (1.18 )   $ 0.59     $ 0.28  
Diluted (loss) income per share
  $ (0.15 )   $ 0.11     $ (1.18 )   $ 0.57     $ 0.27  
Weighted average shares outstanding—Basic
    93,780       93,488       91,247       90,053       89,640  
Weighted average shares outstanding—Diluted
    93,780       95,853       91,247       92,578       94,092  
                                         
 

 
(1)
In July 2009, we introduced our aspenONE licensing model under which license revenue is recognized over the term of a license contract. We previously recognized a substantial majority of our license revenue upfront, upon shipment of software. See “Item 7. Management’s Discussion and Analysis and Results of Operations—Transition to the aspenONE Licensing Model.”
 
(2)
Our income tax provision provided a net benefit of $54.0 million in fiscal 2011, due to the reversal of a significant portion of our U.S. valuation allowance in the fourth quarter of fiscal 2011. See Note 8 to our Consolidated Financial Statements, “Income Taxes,” for further information.
 
 
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Year Ended June 30,
 
   
2012
   
2011
   
2010
   
2009
   
2008
 
   
(Dollars in Thousands)
 
Consolidated Balance Sheet Data:
                             
Cash and cash equivalents
  $ 165,242     $ 149,985     $ 124,945     $ 122,213     $ 134,048  
Working capital
    65,744       80,188       94,466       97,914       116,307  
Accounts receivable, net
    31,450       27,866       31,738       49,882       86,870  
Installments receivable, net
    47,230       86,476       128,598       177,921       134,290  
Collateralized receivables, net
    6,297       25,039       51,430       96,366       135,349  
Total assets
    368,335       399,794       393,359       515,976       554,626  
Deferred revenue
    187,173       128,943       87,279       78,871       106,905  
Secured borrowings
    10,756       24,913       76,135       112,096       147,207  
Total stockholders' equity
    113,592       157,803       140,970       229,410       172,813  
                                         
 
Item 7.      Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
You should read the following discussion in conjunction with our consolidated financial statements and related notes beginning on page F-1. In addition to historical information, this discussion contains forward-looking statements that involve risks and uncertainties. You should read “Item 1A. Risk Factors” for a discussion of important factors that could cause our actual results to differ materially from our expectations.
 
Our fiscal year ends on June 30, and references to a specific fiscal year are the twelve months ended June 30 of such year (for example, “fiscal 2012” refers to the year ended June 30, 2012).
 
Business Overview
 
We are a leading global provider of mission-critical process optimization software solutions which are designed to manage and optimize plant and process design, operational performance, and supply chain planning. Our aspenONE software and related services have been developed specifically for companies in the process industries, including the energy, chemicals, and engineering and construction industries. Customers use our solutions to improve their competitiveness and profitability by increasing throughput and productivity, reducing operating costs, enhancing capital efficiency, and decreasing working capital requirements.
 
Our software incorporates our proprietary empirical models of manufacturing and planning processes and reflects the deep domain expertise we have amassed from focusing on solutions for the process industries for over 30 years. We have developed our applications to design and optimize processes across three principal business areas: engineering, manufacturing and supply chain. We are a recognized market and technology leader in providing process optimization software for each of these business areas.
 
We have established sustainable competitive advantages within our industry based on the following strengths:
 
 
Innovative products that can enhance our customers’ profitability;
 
Long-term customer relationships;
 
Large installed base of users of our software; and
 
Long-term license contracts with historically high renewal rates
 
 
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We have more than 1,500 customers globally. Our customers include manufacturers in process industries such as energy, chemicals, pharmaceuticals, consumer packaged goods, power, metals and mining, pulp and paper, and biofuels, as well as engineering and construction firms that help design and build process manufacturing plants.
 
We primarily license our aspenONE products through a subscription offering.  Our aspenONE products are organized into two suites: 1) engineering and 2) manufacturing and supply chain (MSC).  The aspenONE licensing model provides customers with access to all of the products within the aspenONE suite(s) they license. Customers can change or alternate the use of multiple products in a licensed suite through the use of exchangeable units of measurement, or tokens, licensed in quantities determined by the customer. This licensing system enables customers to use products as needed and to experiment with different products to best solve whatever critical business challenges they face. Customers can increase their usage of our software by purchasing additional tokens as business needs evolve. We believe easier access to all of the aspenONE products will lead to increased software usage and higher revenue over time.
 
Transition to the aspenONE Licensing Model
 
Prior to fiscal 2010, we offered term or perpetual licenses to specific products, or specifically defined sets of products, which we refer to as point products. The majority of our license revenue was recognized under an “upfront revenue model,” in which the net present value of the aggregate license fees was recognized as revenue upon shipment of the point products. Customers typically received one year of post-contract software maintenance and support, or SMS, with their license agreements and then could elect to renew SMS annually.  Revenue from SMS was recognized ratably over the period in which the SMS was delivered.
 
In fiscal 2010, we began offering our aspenONE software as a subscription model, which allows our customers access to all products within a licensed suite (aspenONE Engineering or aspenONE Manufacturing and Supply Chain). SMS is included for the entire subscription term and customers are entitled to any software products or updates introduced into the licensed suite. Revenue is recognized over the term of the subscription on a ratable basis.

We also continue to offer customers the ability to license point products, but since fiscal 2010, have included SMS for the term of the arrangement. Beginning in fiscal 2012, we are unable to establish evidence of the fair value for the SMS component included in our point product arrangements, and revenue from these arrangements is now recognized on a ratable basis. In fiscal 2010 and 2011, license revenue from point product arrangements was generally recognized on the due date of each annual installment, provided all revenue recognition criteria were met.

The introduction of our aspenONE licensing model and the inclusion of SMS for the term of our point product arrangements did not change the method or timing of our customer billings or cash collections. Since the adoption of the aspenONE licensing model, our net cash provided by operating activities increased from $33.0 million in fiscal 2009 to $38.6 million in fiscal 2010, $63.3 million in fiscal 2011 and $104.6 million in fiscal 2012. During these periods we realized steadily improving free cash flow due to the continued growth of our portfolio of term license contracts as well as from the renewal of customer contracts on an installment basis that were previously paid upfront.

As of June 30, 2012, a significant percentage of our active license agreements has been transitioned to our aspenONE licensing model. Over the next few years, we anticipate that a significant portion of our remaining legacy term license arrangements will transition to the aspenONE licensing model as existing license agreements reach the end of their respective original terms. During this transition period, we may continue to have arrangements where the software element will be recognized upfront, including perpetual licenses, amendments to existing legacy term arrangements, and in limited cases, renewals of existing legacy term arrangements. However, we do not expect revenue related to these sources to be significant in relation to our total revenue.
 
Impact of Licensing Model Changes
 
The principal accounting implications of the change in our licensing model are as follows:

 
The majority of our license revenue is no longer recognized on an upfront basis. Since the upfront model resulted in the net present value of multiple years of future installments being recognized at the time of shipment, we do not expect to recognize levels of revenue comparable to our pre-transition levels until a significant majority of license agreements executed under our upfront revenue model (i) reach the end of their original terms and (ii) are renewed.  Accordingly, our product-related revenue for fiscal 2010, 2011 and 2012 was significantly less than the level achieved in the fiscal years preceding our licensing model change.
 
 
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The introduction of our aspenONE licensing model resulted in operating losses for fiscal 2010, 2011 and 2012. The change to our licensing model did not impact the incurrence or timing of our expenses, and there was no corresponding expense reduction to offset the lower revenue. As a portion of the license agreements executed under our upfront revenue model have reached the end of their original term and been renewed under our aspenONE licensing model, subscription and software revenue has steadily increased from the beginning of fiscal 2010 through fiscal 2012. To the extent the remaining term license agreements executed under our upfront revenue model expire and are renewed under our aspenONE licensing model, we expect to recognize levels of revenue and operating profit comparable to, or higher than, our pre-transition levels.

 
The SMS component of our services and other revenue is expected to decrease and be offset by a corresponding increase in subscription and software revenue as customers transition to our aspenONE licensing model. Under our aspenONE licensing model and for point product arrangements which include SMS for the contract term, the entire arrangement fee, including the SMS component, is included within subscription and software revenue.

 
Our installments receivable balance is expected to continue to decrease over time, as licenses previously executed under our upfront revenue model reach the end of their terms and are renewed under our aspenONE licensing model. Under our aspenONE licensing model and for point product arrangements with SMS included for the contract term, installment payments are not considered fixed or determinable and, as a result, are not included in installments receivable. These future payments are included in billings backlog, which is not reflected on our consolidated balance sheets.

 
The amount of our deferred revenue is expected to continue to increase over time as an increasing portion of revenue from our term license portfolio is recognized on a subscription or ratable basis. Under our aspenONE licensing model and for point product arrangements with SMS included for the contract term, installments for license transactions are deferred and recognized on a ratable basis.

Introduction of our Enhanced SMS Offering

Beginning in fiscal 2012, we introduced an enhanced SMS offering to provide more value to our customers. As part of this offering, customers receive 24x7 support, faster response times, dedicated technical advocates and access to web-based training modules. The enhanced SMS offering is being provided to new and existing customers of both our aspenONE licensing model and customers who have licensed point products with SMS included for the term of the arrangement.  Our annually renewable SMS offering continues to be available to customers with legacy term and perpetual license agreements.
The introduction of our enhanced SMS offering has resulted in a change to the revenue recognition of point product arrangements that include SMS for the term of the arrangement.  Beginning in fiscal 2012, all revenue associated with point product arrangements that include the enhanced SMS offering is being recognized on a ratable basis, whereas prior to fiscal 2012, revenue was recognized under the residual method, as payments became due.  The introduction of our enhanced SMS offering did not change the revenue recognition for our aspenONE subscription arrangements.

Revenue

We generate revenue primarily from the following sources:

 
Software licenses.  We provide integrated process optimization software solutions designed specifically for the process industries. We license our software products, together with SMS, primarily on a term basis, and we offer extended payment options for our term license agreements that generally require annual payments, which we also refer to as installments.
 
 
SMS and training.  Our SMS business consists primarily of providing customer technical support and access to software fixes and updates. We provide customer technical support services throughout the world from our customer support centers as well as via email and through our support website. Our training business provides customers with a variety of training solutions, including on-site, Internet-based and customized training.
 
 
Professional services.  We offer professional services that include implementing and integrating our technology with customers’ existing systems in order to improve their plant performance and gain better operational data. Customers who use our professional services typically engage us to provide those services over periods of up to 24 months. We charge customers for professional services on a time-and-materials or fixed-price basis.
 
 
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Four basic criteria must be satisfied before software license revenue can be recognized: persuasive evidence of an arrangement between us and an end user; delivery of our product has occurred; the fee for the product is fixed or determinable; and collection of the fee is probable.

Persuasive evidence of an arrangement—We use a contract signed by the customer as evidence of an arrangement for software licenses and SMS. For professional services we use a signed contract and a statement of work to evidence an arrangement. In cases where both a signed contract and a purchase order are required by the customer, we consider both taken together as evidence of the arrangement.

Delivery of our product—Software and the corresponding access keys are generally delivered to customers via disk media with standard shipping terms of Free Carrier, our warehouse (i.e., FCA, named place). Our software license agreements do not contain conditions for acceptance.

Fee is fixed or determinable—We assess whether a fee is fixed or determinable at the outset of the arrangement. Significant judgment is involved in making this assessment.

Under our upfront revenue model, we are able to demonstrate that the fees are fixed or determinable for all arrangements, including those for our term licenses that contain extended payment terms. We have an established history of collecting under the terms of these contracts without providing concessions to customers. In addition, we also assess whether a contract modification to an existing term arrangement constitutes a concession. In making this assessment, significant analysis is performed to ensure that no concessions are given. Our software license agreements do not include right of return or exchange. For license arrangements executed under the upfront revenue model, we recognize license revenue upon delivery of the software product, provided all other revenue recognition requirements are met.

With the introduction of our aspenONE licensing model and the changes to the licensing terms of our point product arrangements sold on a fixed-term basis, we cannot assert that the fees in these new arrangements are fixed or determinable because the rights provided to customers and the economics of the arrangements are not comparable to our transactions with other customers under the upfront revenue model. As a result, the amount of revenue recognized for these arrangements is limited by the amount of customer payments that become due. For our term arrangements sold with SMS included for the term of the arrangement, this generally results in the fees being recognized ratably over the contract term.

Collection of fee is probable—We assess the probability of collecting from each customer at the outset of the arrangement based on a number of factors, including the customer’s payment history, its current creditworthiness, economic conditions in the customer’s industry and geographic location, and general economic conditions. If in our judgment collection of a fee is not probable, revenue is recognized as cash is collected, provided all other conditions for revenue recognition have been met.
 
Vendor-Specific Objective Evidence of Fair Value

We have established vendor-specific objective evidence of fair value, or VSOE, for certain SMS offerings and for professional services, but not for our software products or our new enhanced SMS offering. We assess VSOE for SMS and professional services based on an analysis of standalone sales of SMS and professional services, using the bell-shaped curve approach. We do not have a history of selling our enhanced SMS offering to customers on a stand-alone basis, and as a result are unable to establish VSOE for this new deliverable.

We allocate the arrangement consideration among the elements included in our multi-element arrangements using the residual method. Under the residual method, the VSOE of the undelivered elements is deferred and the remaining portion of the arrangement fee for perpetual and term licenses is recognized as revenue upon delivery of the software, assuming all other revenue recognition criteria are met. If VSOE does not exist for an undelivered element in an arrangement, revenue is deferred until such evidence does exist for the undelivered elements, or until all elements are delivered, whichever is earlier.  Under the upfront revenue model, the residual license fee is recognized upon delivery of the software provided all other revenue recognition criteria were met. Arrangements that qualify for upfront recognition include sales of perpetual licenses, amendments to existing legacy term arrangements and renewals of legacy term arrangements.
 
 
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Subscription and Software Revenue

Subscription and Software Revenue.  Subscription and software revenue consists of product and related revenue from our (i) aspenONE subscription arrangements; (ii) fixed-term arrangements for point product licenses with our enhanced SMS offering included for the contract term (referred to as point product arrangements with enhanced SMS); (iii) legacy term arrangements (referred to as legacy arrangements); and (iv) perpetual arrangements.

When a customer elects to license our products under our aspenONE licensing model, our enhanced SMS offering is included for the entire term of the arrangement and the customer receives, for the term of the arrangement, the right to any new unspecified future software products and updates that may be introduced into the licensed aspenONE software suites. These agreements combine the right to use all software products within a given product suite with SMS for the term of the arrangement. Due to our obligation to provide unspecified future software products and updates, we are required to recognize the total revenue ratably over the term of the license, once the four revenue recognition criteria noted above have been met.

Our point product arrangements with enhanced SMS also include SMS for the term of the arrangement.  Since we do not have VSOE for our enhanced SMS offering, the SMS element of our point product arrangements is not separable.  As a result, the total revenue is also recognized ratably over the term of the arrangement, once the four revenue recognition criteria have been met.

Perpetual license and legacy arrangements do not include the same rights as those provided to customers under the subscription-based licensing model.  We continue to have VSOE for the legacy SMS offering provided in support of these license arrangements and can therefore separate the undelivered elements.  Accordingly, the license fees for perpetual licenses and legacy arrangements continue to be recognized upon delivery of the software products using the residual method, provided all other revenue recognition requirements are met.
 
Services and Other

SMS Revenue

SMS revenue includes the maintenance revenue recognized from arrangements for which we continue to have VSOE for the undelivered SMS offering.  For arrangements sold with our legacy SMS offering, SMS renewals are at the option of the customer, and the fair value of SMS is deferred and subsequently amortized into services and other revenue in the consolidated statements of operations over the contractual term of the SMS arrangement.

For arrangements executed under the aspenONE licensing model and for point product arrangements with enhanced SMS, we have not established VSOE for the enhanced SMS deliverable. As a result, the revenue related to the SMS element of these transactions is reported in subscription and software revenue in the consolidated statements of operations.

Professional Services

Professional services are provided to customers on a time-and-materials (T&M) or fixed-price basis. We allocate the fair value of our professional services that are bundled with non-aspenONE subscription arrangements, and generally recognize the related revenue as the services are performed, assuming all other revenue recognition criteria have been met. We recognize professional services fees for our T&M contracts based upon hours worked and contractually agreed-upon hourly rates. Revenue from fixed-price engagements is recognized using the proportional performance method based on the ratio of costs incurred to the total estimated project costs. Professional services revenue is recognized within services and other revenue in the consolidated statements of operations. Project costs are based on standard rates, which vary by the consultant’s professional level, plus all direct expenses incurred to complete the engagement. Project costs are typically expensed as incurred. The use of the proportional performance method is dependent upon our ability to reliably estimate the costs to complete a project. We use historical experience as a basis for future estimates to complete current projects. Additionally, we believe that costs are the best available measure of performance. Out-of-pocket expenses which have been reimbursed by customers are recorded as revenue.
 
If the costs to complete a project are not estimable or the completion is uncertain, the revenue is recognized upon completion of the services. In those circumstances in which committed professional services arrangements are sold as a single arrangement with, or in contemplation of, a new license arrangement, revenue is deferred and recognized on a ratable basis over the longer of the period the services are performed or the license term. We have occasionally been required to commit unanticipated additional resources to complete projects, which resulted in lower than anticipated income or losses on those contracts. Provisions for estimated losses on contracts are made during the period in which such losses become probable and can be reasonably estimated.
 
 
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Occasionally, we provide professional services considered essential to the functionality of the software. We recognize the combined revenue from the sale of the software and related services using the percentage-of-completion method. When these professional services are combined with, and essential to, the functionality of an aspenONE subscription transaction, the amount of combined revenue will be recognized over the longer of the subscription term on a ratable basis or the period the professional services are provided.
 
Key Components of Operations

Revenue

Subscription and software revenue consists of product and related revenue from the following sources:

 
(i)
aspenONE subscription arrangements, including the bundled SMS;

 
(ii)
Point product arrangements with our enhanced SMS offering included for the contract term (referred to as point product arrangements with enhanced SMS);

 
(iii)
legacy arrangements including (a) amendments to existing legacy term arrangements, (b) renewals of legacy term arrangements and (c) legacy arrangements that are being recognized over time as a result of not previously meeting one or more of the requirements for recognition under the upfront revenue model; and

 
(iv)
perpetual arrangements.

Results of Operations Classification - Subscription and Software Revenue
 
Prior to fiscal 2012, subscription and software revenue were each classified separately on our consolidated statements of operations, because each type of revenue had different revenue recognition characteristics, and the amount of revenue attributable to each was material in relation to our total revenues.  Additionally, we were able to separate the residual amount of software revenue related to the software component of our point product arrangements which included SMS for the contract term, based on the VSOE for the SMS element.
 
As a result of the introduction of our enhanced SMS offering in fiscal 2012, the majority of our product-related revenue is now recognized on a ratable basis, over the term of the arrangement.  Additionally, we do not expect residual revenue from legacy term arrangements and perpetual arrangements to be significant in relation to our total revenue going forward.  Since the distinction between subscription and point product ratable revenue does not represent a meaningful difference from either a line of business or revenue recognition perspective, we have combined our subscription and software revenue into a single line item on consolidated statements of operations beginning in the first quarter of fiscal 2012.
 
 The following table summarizes the changes to our revenue classifications and the timing of revenue recognition of subscription and software revenue for fiscal 2012 compared to fiscal 2011 and fiscal 2010.  Ratable revenue refers to product revenue that is recognized evenly over the term of the related agreement, beginning when the first payment becomes due.  The residual method refers to the recognition of the difference between the total arrangement fee and the undiscounted VSOE for the undelivered element, assuming all other revenue recognition requirements have been met.

       
 
Revenue Classification in Income Statement
 
Revenue Recognition Methodology
 
Fiscal 2012
 
Fiscal 2011 and 2010
 
Fiscal 2012
 
Fiscal 2011 and 2010
Type of Revenue:
             
aspenONE subscription
Subscription and software
 
Subscription
 
Ratable
 
Ratable
Point products
             
 - Software
Subscription and software
 
Software
 
Ratable
 
Residual method
 - Bundled SMS
Subscription and software
 
Services and other
 
Ratable
 
Ratable
Other
             
 - Legacy arrangements
Subscription and software
 
Software
 
Residual method
 
Residual method
 - Perpetual arrangements
Subscription and software
 
Software
 
Residual method
 
Residual method
               

 
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Services and Other Revenue.  Our services and other revenue consists primarily of revenue related to professional services, standalone renewals of our legacy SMS offering and training. The amount and timing of this revenue depend on a number of factors, including:

 
whether the professional services arrangement was sold as a single arrangement with, or in contemplation of, a new aspenONE licensing transaction;

 
the number, value and rate per hour of service transactions booked during the current and preceding periods;

 
the number and availability of service resources actively engaged on billable projects;

 
the timing of milestone acceptance for engagements contractually requiring customer sign-off;

 
the timing of negotiating and signing maintenance renewals;

 
the timing of collection of cash payments when collectability is uncertain; and

 
the size of the installed base of license contracts.

Cost of Revenue

Cost of Subscription and Software.  Our cost of subscription and software revenue consists of royalties, amortization of capitalized software costs, distribution fees, the costs of providing SMS on arrangements where the related revenue is recorded as subscription and software revenue, and costs related to delivery of software.

Cost of Services and Other.  Our cost of services and other revenue consists primarily of personnel-related and external consultant costs associated with providing customers professional services, SMS on arrangements for which we have VSOE for the SMS element, and training.

Operating Expenses

Selling and Marketing Expenses.  Selling expenses consist primarily of the personnel and travel expenses related to the effort expended to license our products and services to current and potential customers, as well as for overall management of customer relationships. Marketing expenses include expenses needed to promote our company and our products and to acquire market research and measure customer opinions to help us better understand our customers and their business needs.

Research and Development Expenses.  Research and development expenses consist primarily of personnel and external consultant expenses related to the creation of new products and to enhancements and engineering changes to existing products.

General and Administrative Expenses.  General and administrative expenses include the costs of corporate and support functions, such as executive leadership and administration groups, finance, legal, human resources and corporate communications, and other costs such as outside professional and consultant fees and provision for bad debts.

Restructuring Charges.  Restructuring charges result from the closure or consolidation of our facilities, or from qualifying reductions in headcount.

Other Income and Expenses

Interest Income.  Interest income is recorded for the accretion of interest on the installment payments of our term software license contracts when revenue is recognized upfront at net present value, and to a lesser extent from the investment of cash balances in short-term instruments.

Interest Expense.  Interest expense consists of charges primarily related to our secured borrowings. Secured borrowings are derived from our borrowing arrangements with unrelated financial institutions.

 
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Other Income (Expense), Net.  Other income (expense), net is comprised primarily of foreign currency exchange (losses) gains generated from the settlement and remeasurement of transactions denominated in currencies other than the functional currency of our operating units. We may enter into foreign currency forward contracts to attempt to minimize the adverse impact related to unfavorable exchange rate movements, although we have not done so since fiscal 2008. Historically, our foreign currency forward contracts have not been designated as hedging instruments and, therefore, do not qualify for fair value or cash flow hedge treatment under the criteria of Accounting Standards Codification, or ASC, Topic 815, Derivatives and Hedging. Therefore, any unrealized gains and losses on the foreign currency forward contracts, as well as the underlying transactions we are attempting to shield from exchange rate movements, would be recognized as a component of other income (expense), net.

Provision for (Benefit from) Income Taxes.  The provision for income taxes is comprised of current domestic and foreign taxes, and deferred benefit on U.S. losses for which it is more likely than not that we will be able to utilize these benefits in the future. The benefit from income taxes is comprised of the deferred benefit for tax deductions and credits that we expect to utilize in the future.  We record interest and penalties related to income tax matters as income tax expense. We expect the amount of income tax expense, if any, to vary each reporting period depending upon fluctuations in our taxable income by jurisdiction.
 
Key Business Metrics

Background

With the adoption of our subscription-based licensing model, our revenue for fiscal 2010, 2011 and 2012 was significantly less than in the years preceding our model change. Since the upfront model resulted in the net present value of multiple years of future installments being recognized at the time of shipment, we do not expect to recognize levels of revenue comparable to our pre-transition levels until a significant majority of license agreements executed under our upfront revenue model (i) reach the end of their original terms and (ii) are renewed.  As a result, we believe that, for the next few years, a number of our performance indicators based on U.S. generally accepted accounting principles, or GAAP, including revenue, gross profit, operating loss and net loss, will be of limited value in assessing our performance, growth and financial condition until a significant majority of our license agreements executed under our upfront revenue model reach the end of their original terms and are renewed under our subscription-based licensing model. Accordingly, we are focusing on certain non-GAAP and other business metrics, including the key metrics set forth below, to track our business performance. None of these metrics should be considered as an alternative to any measure of financial performance calculated in accordance with GAAP.

To supplement our consolidated statements of cash flows presented on a GAAP basis, we use the non-GAAP measure of free cash flow to analyze cash flows generated from our operations. Management believes that this financial measure is useful to investors because it permits investors to view our performance using the same tools that management uses to gauge progress in achieving our goals. We believe this measure is also useful to investors because it is an indication of cash flow that may be available to fund investments in future growth initiatives and it is also useful as a basis for comparing our performance with that of our competitors. To supplement our presentation of total cost of revenue and total operating costs presented on a GAAP basis, we use a non-GAAP measure of adjusted total costs, which excludes certain non-cash and non-recurring expenses. Management believes that this financial measure is useful to investors because it approximates the cash operating costs of the business. The presentation of these non-GAAP measures is not meant to be considered in isolation or as an alternative to cash flows from operating activities, as a measure of liquidity, or as an alternative to total cost of revenue and total operating costs as a measure of our total costs.
 
Total Term Contract Value
 
Total term contract value, or TCV, is an estimate of the renewal value, as of a specific date, of our active portfolio of term license agreements. TCV is calculated by multiplying the terminal annual payment for each active term license agreement by the original length of the existing license term, and then aggregating this amount for all active term license agreements. Accordingly, TCV represents the full renewal value of all of our current term license agreements under the hypothetical assumption that all of those agreements are simultaneously renewed for the identical license terms and at the same terminal annual payment amounts. TCV includes the value of SMS for any multi-year license agreements for which SMS is committed for the entire license term. TCV does not include any amounts for perpetual licenses, professional services, training or standalone renewal SMS. TCV is calculated using constant currency assumptions for agreements denominated in currencies other than U.S. dollars in order to remove the impact of currency fluctuations between comparison dates.
 
 
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We also estimate a license-only TCV, which we refer to as TLCV, by removing the SMS portion of TCV using our historic estimated selling price for SMS. Our portfolio of active license agreements currently reflects a mix of (a) license agreements that include SMS for the entire license term and (b) legacy license agreements that do not include SMS. TLCV provides a consistent basis for assessing growth, particularly while customers are continuing to transition to arrangements that include SMS for the term of the arrangement.

We believe TCV and TLCV are useful metrics for analyzing our business performance, particularly while we are transitioning to our aspenONE licensing model and revenue comparisons between fiscal periods do not reflect the actual growth rate of our business. Comparing TCV and TLCV for different dates provides insight into the growth and retention rate of our business during the period between those dates.

TCV and TLCV increase as the result of:

 
new term license agreements with new or existing customers;

 
renewals or modifications of existing license agreements that result in higher license fees due to price escalation or an increase in the number of tokens (units of software usage) or products licensed; and

 
renewals of existing license agreements that increase the length of the license term.

The renewal of an existing license agreement will not increase TCV and TLCV unless the renewal results in higher license fees or a longer license term. TCV and TLCV are adversely affected by customer non-renewals and by renewals that result in lower license fees or a shorter license term. Our standard license term historically has been between five and six years, and we do not expect this standard term to change in the future. Many of our contracts have escalating annual payments throughout the term of the arrangement. By calculating TCV and TLCV based on the terminal year annual payment, we are typically using the highest annual fee from the existing arrangement to calculate the hypothetical renewal value of our portfolio of term arrangements.

We estimate that TLCV grew by approximately 14.5% during fiscal 2012, from $1.28 billion at June 30, 2011 to $1.46 billion at June 30, 2012. The growth was attributable primarily to an increase in the number of tokens or products licensed. We estimate that TCV grew by approximately 17.7% during fiscal 2012, from $1.42 billion at June 30, 2011 to $1.68 billion at June 30, 2012.

Future Cash Collections and Billings Backlog

Future cash collections is the sum of billings backlog, accounts receivable, undiscounted installments receivable and undiscounted collateralized receivables.

Billings backlog represents the aggregate value of uninvoiced bookings from prior and current periods that are not reflected on our consolidated balance sheets.

Prior to fiscal 2010, the majority of bookings were recognized as revenue in the period booked and reflected on our consolidated balance sheets as installments receivable, or if sold, as collateralized receivables. Installments receivable and collateralized receivables were discounted to net present value at prevailing market rates at the time of the transaction. Amounts collected for collateralized receivables are applied to pay the related secured borrowings and are not available for any other expenditures.

Under our aspenONE licensing model and point product arrangements with SMS included for the contract term, installment payments are not considered fixed or determinable and, as a result, are not included in installments receivable or collateralized receivables. These future payments are included in billings backlog, which is not reflected on our consolidated balance sheets. We believe future cash collections is a useful metric because it provides insight into the cash generation capability of our business. Under the upfront revenue model, we did not previously monitor billings backlog or future cash collections since we believed that accounts receivable, installments receivable, collateralized receivables and certain other measures were appropriate indicators of estimated cash generation at that time.
 
Since a substantial majority of our future bookings will reflect arrangements which include SMS for the term of the arrangement, we expect installments receivable and collateralized receivables to decline. To the extent customers have transitioned to arrangements which include SMS for the term of the arrangement, our billings backlog will include the contractually committed sources of cash associated with our licensing and SMS businesses. The only sources of cash that will continue to be excluded from future cash collections will be amounts attributable to professional services, training and any remaining standalone SMS.

 
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The following table provides our future cash collections related to existing customer arrangements as of the dates presented (dollars in thousands):
 
   
Year Ended June 30,
 
   
2012
   
2011
   
2010
 
Billings backlog
  $ 799,366     $ 640,988     $ 389,354  
Accounts receivable, net
    31,450       27,866       31,738  
Installments receivable, undiscounted (non-GAAP) (1)
    50,680       95,796       147,315  
Collateralized receivables, undiscounted (non-GAAP) (1)
    6,500       26,691       56,461  
Future cash collections (2)
  $ 887,996     $ 791,341     $ 624,868  
                         
 

 
(1)
Excludes unamortized discount.
 
 
(2)
Future cash collections and billings backlog are transitory metrics introduced at the launch of our aspenONE licensing model, to help provide increased visibility into the cash flow potential of our business. Since the adoption of the aspenONE licensing model, our net cash provided by operating activities has increased from $33.0 million in fiscal 2009 to $38.6 million in fiscal 2010, $63.3 million in fiscal 2011 and $104.6 million in fiscal 2012. As such, we believe we have demonstrated the cash flow potential of our business and will no longer disclose these metrics beyond fiscal 2012.

The growth in billings backlog since 2010 reflects our customers’ adoption of our aspenONE licensing model and point product arrangements with enhanced SMS. As customers continue to convert to our subscription-based licensing model, the aggregate value of un-invoiced bookings will become part of billings backlog and future cash collections.

We are providing the following table for the periods presented to reconcile undiscounted installments receivable and collateralized receivables, as included in our future cash collections metric, with GAAP installments receivable, net and GAAP collateralized receivables, net (dollars in thousands):
 
   
Year Ended June 30,
 
   
2012
   
2011
   
2010
 
Installments receivable, undiscounted (non-GAAP)
  $ 50,680     $ 95,796     $ 147,315  
Unamortized discount
    (3,450 )     (9,320 )     (18,717 )
Installments receivable, net
  $ 47,230     $ 86,476     $ 128,598  
                         
Collateralized receivables, undiscounted (non-GAAP)
  $ 6,500     $ 26,691     $ 56,461  
Unamortized discount
    (203 )     (1,652 )     (5,031 )
Collateralized receivables, net
  $ 6,297     $ 25,039     $ 51,430  
                         
 
Installments receivable and collateralized receivables are shown at net present value in our consolidated balance sheets. Future cash collections exclude the unamortized discount on installments receivable and collateralized receivables. Amounts collected for collateralized receivables are applied to pay the related secured borrowings and are not available for any other purpose.
 
Adjusted Total Costs

The following table presents our total cost of revenue and total operating expenses, as adjusted for stock-based compensation expense and amortization of purchased intangibles, for the indicated periods (dollars in thousands):
 
                                           
   
Year Ended June 30,
   
2012 Compared to 2011
   
2011 Compared to 2010
 
   
2012
   
2011
   
2010
    $     %     $     %  
Total cost of revenue
  $ 52,277     $ 52,345     $ 66,110     $ (68 )     (0.1 ) %   $ (13,765 )     (20.8 ) %
Total operating expenses
    205,864       200,385       209,604       5,479       2.7       (9,219 )     (4.4 )
Total expenses
    258,141       252,730       275,714       5,411       2.1 %     (22,984 )     (8.3 ) %
Less:
                                                       
Stock-based compensation
    (12,406 )     (9,699 )     (15,260 )     (2,707 )     27.9       5,561       (36.4 )
Amortization of purchased intangibles
    (142 )     -       -       (142 )     -       -       -  
Adjusted total costs (non-GAAP)
  $ 245,593     $ 243,031     $ 260,454     $ 2,562       1.1 %   $ (17,423 )     (6.7 ) %
                                                   
 
 

 
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Fiscal 2012 Compared to Fiscal 2011
 
Total expenses increased by $5.4 million during fiscal 2012 compared to the prior fiscal year. Adjusted total costs, which consist of total cost of revenue and total operating expenses, adjusted to exclude stock-based compensation and amortization of purchased intangibles, increased by $2.6 million for fiscal 2012 compared to the prior fiscal year. The period-over-period increase was primarily attributable to higher compensation and related costs of $3.8 million, an increase in business taxes of $0.8 million, and other less significant increases which in the aggregate totaled $2.7 million. These increases were offset by a reduction in legal costs of $4.4 million, lower spending on outside consultants of $2.6 million, the recognition of a $1.7 million gain associated with an insurance recovery, lower audit fees of $0.7 million, lower recruiting and related costs of $0.7 million, and other less significant reductions which in the aggregate totaled $1.4 million. In addition, the fiscal 2011 period benefited from the reversal of a previously accrued liability of $4.0 million resulting from the expiration of a technology vendor relationship, as well as from the collection of previously reserved receivables resulting in a net reduction in bad debt expense of $2.8 million. These two events resulted in a reduction in expense during the period. No similar events occurred in fiscal 2012.
 
Stock-based compensation expense increased $2.7 million primarily due to the incremental expense associated with the August 2011 annual program grant, which had a higher valuation than the prior year annual grant, partially offset by a decrease attributable to certain awards becoming fully vested. Please refer to the “Results of Operations” section below for additional information on year-over-year expense fluctuations.

Fiscal 2011 Compared to Fiscal 2010
 
The most significant components of the year-over-year decrease in adjusted total costs were lower professional services costs (excluding stock-based compensation expenses) of $11.2 million, reduced finance-related consultant and audit fees of $9.6 million, and lower royalty expense due to the reversal of a previously accrued liability of $4.0 million resulting from the expiration of a technology vendor relationship. These expense decreases were partially offset by increased legal and related expenses of $7.9 million. Legal expenses in the period primarily relate to the ATME matter and proceedings we instituted to enforce our intellectual property rights. Legal expenses for fiscal 2011 also include expenses related to the secondary offering of our common stock, which was effective as of September 22, 2010. Please refer to Part I, Item 3, “Legal Proceedings,” for more information on specific matters and to the “Results of Operations” section below for additional information on year-over-year expense fluctuations.
 
Free Cash Flow

Free cash flow is calculated as net cash provided by operating activities less the sum of (a) purchase of property, equipment and leasehold improvements and (b) capitalized computer software development costs.

Customer collections and, consequently, cash flows from operating activities and free cash flow are primarily driven by license and services billings, rather than recognized revenue. As a result, the introduction of our aspenONE licensing model has not had an adverse impact on cash receipts. Until existing term license contracts are renewed and license-related revenue returns to prior year levels, we believe free cash flow is a more relevant measure of our financial performance than income statement profitability measures such as total revenue, gross profit, operating loss and net loss. Additionally, we also believe that free cash flow is often used by security analysts, investors and other interested parties in the evaluation of software companies.

The following table provides a reconciliation of net cash flows provided by operating activities to free cash flow for the periods presented (dollars in thousands):
 
       
   
Year Ended June 30,
 
   
2012
   
2011
   
2010
 
Net cash provided by operating activities
  $ 104,637     $ 63,330     $ 38,622  
Purchase of property, equipment, and leasehold improvements
    (4,241 )     (2,839 )     (2,652 )
Capitalized computer software development costs
    (511 )     (1,990 )     (699 )
Free cash flow (non-GAAP)
  $ 99,885     $ 58,501     $ 35,271  
                         
 
Total free cash flow increased $41.4 million during fiscal 2012 as compared to the prior fiscal year.
 
 
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We have realized steadily improving free cash flow due to the continued growth of our portfolio of term license contracts as well as from the renewal of customer contracts on an installment basis that were previously paid upfront. Historically, certain customers elected to pay for their term licenses upfront, at a discount, rather than annually over the contract term. Contracts which were paid upfront resulted in increased cash flow variability, with higher cash flow in the period of the payment, but no cash flow in subsequent years of the contract term. Over the past few years we have reduced the incentive for customers to pay upfront by reducing the discount rate used to calculate the upfront payment. As a result, we expect our free cash flow to continue to improve as these arrangements reach the end of their terms and are renewed on an installment basis.
 
Results of Operations
 
The following table sets forth the results of operations, percentage of total revenue and the year-over-year percentage change in certain financial data for fiscal 2012, 2011 and 2010:
 
                                       
2012
   
2011
 
                                       
Compared to
   
Compared to
 
   
Year Ended June 30,
   
2011
   
2010
 
   
2012
   
2011
   
2010
   
%
   
%
 
Revenue:
                                               
Subscription and software
  $ 166,688       68.6 %   $ 103,699       52.3 %   $ 53,991       32.5 %     60.7 %     92.1 %
Services and other
    76,446       31.4       94,455       47.7       112,353       67.5       (19.1 )     (15.9 )
Total revenue
    243,134       100.0       198,154       100.0       166,344       100.0                  
Cost of revenue:
                                                               
Subscription and software
    10,617       4.4       5,213       2.6       6,437       3.9       103.7       (19.0 )
Services and other
    41,660       17.1       47,132       23.8       59,673       35.9       (11.6 )     (21.0 )
Total cost of revenue
    52,277       21.5       52,345       26.4       66,110       39.7       (0.1 )     (20.8 )
Gross profit
    190,857       78.5       145,809       73.6       100,234       60.3       30.9       45.5  
Operating expenses:
                                                               
Selling and marketing
    96,400       39.6       90,771       45.8       97,002       58.3       6.2       (6.4 )
Research and development
    56,218       23.2       50,820       25.6       48,228       29.0       10.6       5.4  
General and administrative
    53,547       22.0       59,041       29.8       63,246       38.0       (9.3 )     (6.6 )
Restructuring charges
    (301 )     (0.1 )     (247 )     (0.1 )     1,128       0.7       21.9       *  
Total operating expenses
    205,864       84.7       200,385       101.1       209,604       126.0       2.7       (4.4 )
Loss from operations
    (15,007 )     (6.2 )     (54,576 )     (27.5 )     (109,370 )     (65.7 )     (72.5 )     (50.1 )
Interest income
    7,578       3.1       13,075       6.6       19,324       11.6       (42.0 )     (32.3 )
Interest expense
    (4,204 )     (1.7 )     (5,138 )     (2.6 )     (8,455 )     (5.1 )     (18.2 )     (39.2 )
Other income (expense), net
    (3,519 )     (1.5 )     2,919       1.5       (2,407 )     (1.4 )     (220.6 )     (221.3 )
Loss before income taxes
    (15,152 )     (6.3 )     (43,720 )     (22.1 )     (100,908 )     (60.7 )     (65.3 )     (56.7 )
(Benefit from) provision for income taxes (1)
    (1,344 )     (0.6 )     (53,977 )     (27.2 )     6,537       3.9       (97.5 )     *  
Net (loss) Income
  $ (13,808 )     (5.7 ) %   $ 10,257       5.2 %   $ (107,445 )     (64.6 ) %     (234.6 ) %     (109.5 ) %
                                                                 
 
*
Not meaningful.
 
(1)
Our income tax provision provided a net $54.0 million benefit in fiscal 2011, due to the reversal of a significant portion of our U.S. valuation allowance in the fourth quarter. See Note 8 to our Consolidated Financial Statements, “Income Taxes,” for further information.
 
Revenue
 
Fiscal 2012 Compared to Fiscal 2011
 
Total revenue increased by $45.0 million compared to the prior fiscal year. The increase was due to higher subscription and software revenue of $63.0 million, partially offset by lower services and other revenue of $18.0 million.
 
Fiscal 2011 Compared to Fiscal 2010
 
Total revenue increased by $31.8 million compared to the prior fiscal year. The increase was due to higher subscription and software revenue of $49.7 million, partially offset by lower services and other revenue of $17.9 million.
 
Subscription and Software Revenue
 
As discussed above in “Results of Operations Classification - Subscription and Software Revenue,” we have combined subscription and software revenues on our consolidated statements operations. The following tables provide subscription and software revenue for fiscal 2012, 2011 and 2010, based on the respective revenue recognition methodology.
 
 
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    Year Ended June 30,     Year Ended June 30,  
   
2012
   
2011
   
2010
    2012     2011     2010  
                                     
Subscription and software revenue:
                                   
Ratable (1)
  $ 144,144     $ 58,459     $ 11,071       86.5 %      56.4 %      20.5 %
Residual method (2)
    22,544       45,240       42,920       13.5        43.6        79.5  
Subscription and software revenue
  $ 166,688     $ 103,699     $ 53,991       100.0 %      100.0 %      100.0 %
 
                                               

(1)
During fisca1 2011 and 2010, the fair value of the SMS element of point product arrangements totaled $2.1 million and $0.7 million, respectively, and was presented in the consolidated statements of operations as services and other revenue. Effective July 1, 2011, the fee attributable to the SMS in point product arrangements is no longer separable since we are unable to establish VSOE, and as a result, is included within ratable revenue.
 
(2)
 
                   
Residual method revenue detail
 
Year Ended June 30,
 
   
2012
   
2011
   
2010
 
Residual method revenue:
                 
Point products - Software
    *     $ 20,190     $ 9,648  
Legacy arrangements
    20,586       22,761       31,400  
Perpetual arrangements
    1,958       2,289       1,872  
Total residual method revenue
  $ 22,544     $ 45,240     $ 42,920  
                         
 
 
* Effective July 1, 2011, the total combined arrangement fee (which includes the fee attributable to SMS) for point product arrangements with enhanced SMS is recognized on a ratable basis.
 
Fiscal 2012 Compared to Fiscal 2011
 
The increase in subscription and software revenue during fiscal 2012 was primarily the result of a larger base of aspenONE licensing arrangements being recognized on a ratable basis during the fiscal year. We expect subscription and software revenue to continue to increase as customers renew expiring contracts under our aspenONE licensing model. While we are transitioning to our aspenONE licensing model, revenue comparisons between fiscal periods do not reflect the actual growth rate of our business.
 
As noted in the table above, we recognized approximately $20.6 million and $22.8 million of revenue related to legacy arrangements during fiscal 2012 and 2011, respectively. Going forward, we expect residual method revenue from legacy arrangements to decrease and be replaced with term-based licensing agreements that are recognized on a ratable basis.  We do not expect revenue related to point products licensed on a perpetual basis to be a significant source of revenue during fiscal 2013 and beyond.
 
Fiscal 2011 Compared to Fiscal 2010
 
The increase in subscription and software revenue for fiscal 2011 was primarily the result of a larger base of aspenONE licensing arrangements being recognized as revenue on a ratable basis in the current fiscal year. The amount of subscription revenue recognized in the prior year was limited as a result of subscription arrangements not being offered prior to fiscal 2010. Additionally, there were increases in revenue of $10.5 million and $0.4 million associated with point product arrangements with SMS included for the entire term and from perpetual arrangements, respectively.
 
These increases were partially offset by decreased revenue of $8.6 million associated with legacy software arrangements. In fiscal 2011, revenue from legacy software arrangements totaled $22.8 million. Of the total legacy revenue, $21.1 million, or 93%, related to revenue that was not recorded in prior periods due to the arrangement not meeting all of the requirements for upfront revenue recognition. Amendments to legacy term arrangements that qualified for upfront revenue recognition in fiscal 2011 totaled $1.7 million.
 
Services and Other Revenue
 
                               
    Year Ended June 30,     2012 Compared to 2011     2011 Compared to 2010  
   
2012
   
2011
   
2010
    $     %     $     %  
Professional services revenue
  $ 22,421     $ 29,334     $ 37,491     $ (6,913 )     (23.6 ) %   $ (8,157 )     (21.8 ) %
SMS and other revenue
    54,025       65,121       74,862       (11,096 )     (17.0 )     (9,741 )     (13.0 )
Services and other revenue
  $ 76,446     $ 94,455     $ 112,353     $ (18,009 )     (19.1 ) %   $ (17,898 )     (15.9 ) %
As a percent of revenue
    31.4 %     47.7 %     67.5 %                                
                                                         

 
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Professional Services Revenue
 
Fiscal 2012 Compared to Fiscal 2011
 
The year-over-year decrease in professional services revenue was primarily due to decreased customer demand for professional services and to the timing of revenue recognition on certain large arrangements. Our primary focus is the successful implementation and usage of our software, and in many instances, this work can be professionally performed by qualified third parties. We often compete with third party consulting firms when bidding for professional services contracts, particularly in developed markets. The competitive market for services, in conjunction with increasing customer familiarity with many of our well-established software products, has had an unfavorable impact on our professional services revenue over time.
 
Under the aspenONE licensing model, revenue from committed professional service arrangements that are sold as a single arrangement with, or in contemplation of, a new aspenONE licensing transaction is deferred and recognized on a ratable basis over the longer of (a) the period the services are performed or (b) the term of the related software arrangement. As our typical contract term approximates five years, professional services revenue on these types of arrangements will usually be recognized over a longer period than under the upfront revenue model. For fiscal 2012, we had net deferrals of $4.1 million for professional services bundled with aspenONE transactions.
 
The timing of revenue recognition on certain large arrangements can also impact the comparability of professional services revenue from period to period. In fiscal 2012, we deferred the recognition of $2.0 million of professional services revenue on certain large arrangements that did not meet the requirements for revenue recognition. By comparison, in fiscal 2011, we deferred the recognition of approximately $3.2 million of professional services revenue on similar arrangements.
 
Fiscal 2011 Compared to Fiscal 2010
 
The year-over-year decrease in professional services revenue primarily relates to decreased customer demand for professional services and higher professional services revenue deferrals and due to the impact of the timing of revenue recognition on certain large arrangements. The competitive market for services, in conjunction with increasing customer familiarity with many of our well-established software products, had an unfavorable impact on our professional services revenue. For fiscal 2011, we had net deferrals of $2.8 million for professional services bundled with aspenONE transactions.
 
In fiscal 2011, we deferred the recognition of $3.2 million of professional services revenue on certain large arrangements that did not meet the requirements for revenue recognition. By comparison, in fiscal 2010, we recognized approximately $4.5 million of previously deferred professional services revenue due to a large project achieving certain milestones.
 
SMS and Other Revenue
 
SMS and other revenue includes annually renewed SMS offered in support of our perpetual and legacy term arrangements.
 
Fiscal 2012 Compared to Fiscal 2011
 
SMS and other revenue during fiscal 2012 decreased by $11.1 million compared to the prior fiscal year.  The decrease was primarily due to customers transitioning to term license arrangements that include SMS for the contract term, and the continued trend of customers electing to replace perpetual license arrangements with new term contracts. Under our subscription-based licensing model and for point product arrangements which include SMS for the contract term, the entire arrangement fee is included within subscription and software revenue. We expect SMS revenue related to perpetual arrangements and legacy term arrangements to continue to decrease as additional customers transition to our subscription-based licensing model.  Over the next few years, we expect that SMS revenue will represent less than 10% of our total revenue, at which time we would include SMS revenue in our subscription and software line in our consolidated statements of operations.
 
Fiscal 2011 Compared to Fiscal 2010
 
SMS and other revenue during fiscal 2011 decreased by $9.7 million compared to the prior fiscal year, primarily due to customers transitioning to the aspenONE licensing model, and, to a lesser extent, the continued trend of customers electing to replace perpetual license arrangements with new term contracts. Under the aspenONE licensing model, SMS is included in subscription revenue, whereas it was presented as services and other revenue under the upfront revenue model.
 
 
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Expenses
 
Cost of Subscription and Software Revenue
 
                               
    Year Ended June 30,     2012 Compared to 2011     2011 Compared to 2010  
   
2012
   
2011
   
2010
    $     %     $     %  
Cost of subscription and software revenue
  $ 10,617     $ 5,213     $ 6,437     $ 5,404       103.7 %   $ (1,224 )     (19.0 ) %
Gross margin
    93.6 %     95.0 %     88.1 %                                
                                                         

Fiscal 2012 Compared to Fiscal 2011
 
The increase in cost of subscription and software revenue during fiscal 2012 compared to the prior fiscal year was due to a larger percentage of SMS services being provided to customers under our subscription-based licensing model. We allocate the portion of SMS cost associated with providing support services on subscription and software arrangements in order to match the expense with the related revenue. Prior to the introduction of the aspenONE licensing model in fiscal 2010, all costs associated with providing SMS were included in cost of services and other revenue. As more customers transition to the subscription-based licensing model, more of the related SMS costs will be included in cost of subscription and software revenue.
 
In addition, the fiscal 2011 period benefited from the reversal of a previously accrued liability of $4.0 million resulting from the expiration of a technology vendor relationship. No similar event occurred in fiscal 2012. Our subscription and software gross margins during fiscal 2012 were slightly higher than the prior fiscal year after excluding the impact of the reversal of the previously accrued liability for fiscal 2011.
 
Fiscal 2011 Compared to Fiscal 2010
 
The decrease in cost of subscription and software revenue during fiscal 2011 compared to the prior fiscal year was primarily due to the reversal of a previously accrued liability resulting from the expiration of a technology vendor relationship. No similar event occurred in fiscal 2010. This reduction in expense was partially offset by a larger percentage of SMS services being provided to customers under the aspenONE licensing model.
 
After excluding the impact of the reversal of the previously accrued liability for fiscal 2011, our subscription and software gross margins were slightly higher than fiscal 2010.
 
Cost of Services and Other Revenue
 
                               
    Year Ended June 30,     2012 Compared to 2011     2011 Compared to 2010  
   
2012
   
2011
   
2010
    $     %     $     %  
Cost of services and other revenue
  $ 41,660     $ 47,132     $ 59,673     $ (5,472 )     (11.6 ) %   $ (12,541 )     (21.0 ) %
Gross margin
    45.5 %     50.1 %     46.9 %                                
                                                         

Cost of services and other revenue includes the cost of providing professional services, training, annually renewed SMS, and other revenue.
 
Fiscal 2012 Compared to Fiscal 2011
 
Cost of Professional Services Revenue
 
The cost of professional services revenue decreased $1.2 million during fiscal 2012, as compared to fiscal 2011. The decrease was primarily attributable to lower compensation and related costs.
 
Cost of SMS and Other Revenue
 
Cost of SMS and other revenue decreased $4.3 million during fiscal 2012 compared to the prior fiscal year. The year-over-year decrease in cost of SMS and other revenue was primarily due to the growth of our subscription based revenue and the associated higher allocation of SMS support costs being reported in cost of subscription and software revenue. As the subscription business grows, we expect the cost of SMS revenue to continue to migrate from cost of services and other revenue to cost of subscription and software revenue. Eventually, we expect the majority of the costs of our SMS business to be presented in cost of subscription and software revenue.

Gross margin on cost of services and other revenue declined from 50.1% in fiscal 2011 to 45.5% in fiscal 2012. The gross margin on SMS has historically been higher than on professional services. As SMS revenue continues to migrate to subscription and software revenue, we expect the gross margin on services and other revenue to decrease.
 
 
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Fiscal 2011 Compared to Fiscal 2010
 
Cost of Professional Services Revenue
 
The decrease in cost of professional services revenue during fiscal 2011 was primarily related to the reduction of staffing levels in the professional services organization and the timing of expense recognition on certain projects. We reduced our staffing levels in fiscal 2010 to better align our cost structure with the decreased demand for professional services. We received a full year of cost benefit related to these reductions in fiscal 2011.
 
The timing of expense recognition on professional service arrangements can also impact the comparability of cost of professional services revenue from period to period. In fiscal 2011, we deferred costs of $1.6 million on a large arrangement where we are also deferring the related revenue. Also contributing to the year-over-year decrease in costs was a loss accrual of approximately $3.0 million related to a large professional service arrangement which was recognized in the fourth quarter of fiscal 2010.
 
Cost of SMS and Other Revenue
 
Cost of SMS and other revenue decreased $0.9 million in fiscal 2011, primarily due to the migration of SMS costs on our aspenONE subscription arrangements to cost of subscription and software revenue.
 
Selling and Marketing Expense
 
                               
    Year Ended June 30,     2012 Compared to 2011     2011 Compared to 2010  
   
2012