2020 Annual Report olio O p ti rtf o P P r o c M e s a s n & a g e m a m iz ti o n Innova ti o n P l a n n i n g Enterprise Innovation Management e a/Concept e v elopment I d D e Project nt TABLE OF CONTENTS STRATEGIC REPORT Summary Results and Trends .............................................................................................5 Chairman's Statement .........................................................................................................6 Strategy and Market ............................................................................................................8 Financial Review ...............................................................................................................15 GOVERNANCE Directors and Advisors ......................................................................................................20 Board Committee Reports .................................................................................................21 Directors' Report ................................................................................................................24 Statement of Directors' Responsibilities ............................................................................29 FINANCIAL INFORMATION Auditors' Report .................................................................................................................30 Consolidated Financial Statements ...................................................................................37 Notes to the Financial Statements ....................................................................................41 Sopheon and Accolade are registered trademarks of Sopheon plc. Microsoft is a registered trademark of the Microsoft Corporation. All other trademarks are the property of their respective owners. Sopheon’s mission is to help our customers achieve exceptional long-term growth and profitability through sustainable innovation. We do this by digitalizing enterprise innovation through software, services and best practices that help companies operate with success. Our solutions connect people, systems and information, helping companies better execute on business strategy and improve the return on their investments into initiatives such as transformational change, enterprise innovation, product development, supply chain efficiencies and cost reduction. These solutions are designed to keep strategy visible and continuously aligned with operational execution throughout the initiative life cycle, ensuring long-term market success. The transparency and insight they provide support speed, agility and adaptability – all critical enterprise capabilities in the digital era – and enable decision-making that drives better business outcomes. Strategic Innovation Planning & Roadmapping Strategy Execution Idea/ Concept Development Innovation Process & Program Management Portfolio Optimization & Resource Management 2017 2018 $33.9m 2016 $28.5m $23.2m 2019 2020 $30.3m $30.0m 2019 $15.9m 2018 $14.8m 2017 2020 $18.0m 2016 $12.1m $9.9m SaaS 2.74X New 1.58X Total 1.25X REVENUE ARR TCV GROWTH First to introduce smart technologies and PPT on a single click First to embed graphical “product life cycle” stages PPT XLS DOC MPP First to implement enterprise-wide, fully-integrated Innovation Planning and Roadmapping First to embed 30 years of best-practice know-how First to introduce integrated roadmapping, planning, execution, ideation and portfolio in one solution First to automate Stage-Gate® First and only to provide a genetic (learning) algorithm to assist with portfolio alignment (smart optimization) First to embed proactive knowledge discovery 6 CHAIRMAN'S STATEMENT I am very proud to report a growth in contractual bookings over the previous year in a period of unpredictability and unparalleled disruption. We are reporting $30m revenue in 2020, matching the prior year, and with several other indicators showing rising commercial traction, even in the face of dual headwinds. Besides the global shock caused by the pandemic, this was our first full year of prioritizing Software as a Service (SaaS) contracts for our new customer engagements. Each of these factors created downward pressure on revenues, highlighting the strength of our achievement. The pandemic introduced new challenges to sales and retention; and our strategy to make selling new SaaS contracts a priority reduces revenue recognition in the first year compared to traditional perpetual licenses, trading this for a higher quality and predictable ongoing recurring revenue stream in the future. Other key metrics, core to measuring the progress of our cloud transition, are encouraging – Total Contract Value (TCV) of sales booked in the year was up a quarter, and we nearly tripled the TCV of new SaaS contracts booked. Six of the new deals signed exceeded $1m in initial TCV, and Annual Recurring Revenue (ARR) closed at $18m, an historic high up from $15.9m a year ago. Retention did suffer during the initial stages of the pandemic, then rebounded later in the year. Furthermore, we achieved all of this while continuing to deliver a solidly profitable and cash generative year, also reporting new highs in cash balances and closing net assets. Sopheon is a business in transition. As our CEO Andy Michuda explains in his report, we are embarking on the development of new cloud-native products, which will contribute to the growth of our well-established enterprise solution, Accolade®. These new cloud-based applications will bring value to personal and workgroup productivity alongside the corporate value points we are well known for. This strategy and investment will lead to multiple benefits. Our new applications will address needs of a work-from-home trend that is now unstoppable and will introduce a low cost, high volume market “pull” sales model by targeting innovation professionals in our target markets. This parallel sales model will produce upsell enterprise opportunities; and our strong enterprise brand and reputation will in turn feed the cloud-based application sales funnel. Our cloud products will integrate seamlessly with our current enterprise solution – and over time, we expect many existing enterprise customers to adopt the cloud applications. In addition, we fully expect to add new cloud capability and market presence through acquisitions. We will move rapidly when the right opportunity is identified. In this context of transition, I have the bittersweet task of noting that this will be my last report as Chairman of Sopheon. I have been in this role since inception of the company. It has been a privilege to lead such talented employees, and to build a business that is making a real difference to so many major corporations. Yet, as we embrace change in our own business, the time has come to pass the baton. I can think of no better person to take on the Executive Chairman role and to steer Sopheon through the coming years than our CEO, Andy We fully expect to add new cloud capability and market presence through acquisitions. We will move rapidly when the right opportunity is identified. STRATEGIC REPORT 7 Michuda. As well as governance, Andy will focus on partnerships and acquisitions. He will be replaced as CEO by Greg Coticchia who joined us in October 2020. We also welcome Greg to the board of the company. As we have previously shared, Greg is a recognized entrepreneur, business leader, professor and author, with over thirty years’ experience in software products and services. He has great experience in leading the strategic transition we face and is now fully embedded and supported by our senior leadership team. The board and I are delighted with these two appointments. The changes I have described will take effect on 31 March 2021. My personal commitment to Sopheon is undimmed, and I will remain a non-executive director and major shareholder in the company as we go through this exciting new chapter in the Sopheon story. Although SaaS will dominate new deals and represents our future, I should emphasize that we fully expect to continue to sign some perpetual licenses, driven mainly by existing customers. Adding our year-to-date license sales and consulting services backlog to ARR takes overall revenue visibility1 for 2021 to $24.5m at the time of this report, compared to $21.2m a year ago. With this solid revenue base already in place for 2021, plus our strong balance sheet, a superb customer base and a team of great people – I am confident that Sopheon has a great future. We also continue to believe in sharing success with shareholders, and I am therefore pleased to announce that we will again maintain our dividend at 3.25p per share. Barry Mence Executive Chairman 23 March 2021 2020 $30.0m 2019 $27.9m 2020 $21.7m 2019 $19.4m NET ASSETS NET CASH 1 Revenue visibility comprises revenue expected from (i) closed license orders, including those which are contracted but conditional on acceptance decisions scheduled later in the year; (ii) contracted services business delivered or expected to be delivered in the year; and (iii) recurring maintenance, hosting and rental streams. The visibility calculation does not include revenues from new sales opportunities expected to close during the remainder of the year. 8 STRATEGY AND MARKET In this section, our CEO Andy Michuda explains Sopheon’s mission, differentiation and principal growth strategies. A summary of the principal risk areas facing the business is set out in the Directors’ Report. Further analysis of Sopheon’s financial results during the year, including a review of the business, the financial position at the end of the year, key indicators and an overview of key corporate developments are set out in the Financial Review. Our Mission Sopheon was founded with a mission to provide our customers with world-class product solutions that contribute to exceptional long-term growth and profitability through sustainable innovation. Our Accolade solution digitalizes Enterprise Innovation and other strategic initiatives that provide competitive advantage in the age of digitalization. LEARNINGS FROM 2020 Our Clients Entered the Journey to Migrate Their Accolade Application to the Cloud The R&D-intensive industries that Sopheon targets started to accept the cloud in earnest in 2019. Sopheon entered 2020 with the introduction of new programs to assist our clients in moving their data sensitive applications managed by Sopheon’s product, Accolade, to the cloud. Customers have responded favorably: • We introduced a SaaS First program to interest new clients to favor SaaS contracts over the traditional on-premise in perpetuity agreements. The market was very receptive to the offering, resulting in over half of our net new clients in 2020 signing SaaS contracts. We are confident this shift will deepen into 2021. • We introduced a SaaS Uplift program designed to assist active maintenance-paying clients to transition to the cloud. Our offering reduces cost to the client by removing the need for them to manage our software in their environment. It also enables faster access to new features and capabilities. Four clients converted to SaaS in 2020 as part of our introduction program, validating our business case and ROI proposition. With this success behind us we enter 2021 expecting to increase momentum in this uplift program, targeting our substantial base of perpetual on-premises clients. STRATEGIC REPORT STRATEGIC REPORT 9 9 Convergence of Physical and Software Innovation Has Created a New Unmet Need Software start-ups and high-tech leaders are disrupting every industry with new operating models. This has forced traditional companies to invest in software engineers to create “smart” products to compete. As a result, a new challenge has emerged. Companies are struggling to manage the governance between the physical and software aspects of their products to orchestrate the cross-functional product development lifecycle and go-to-market activities. If companies don’t adapt and introduce new agility they will struggle to compete. We see this as a significant opportunity to Sopheon. Accolade Offers Customers the Agility and Adaptability to Handle Disruption At the time of writing our annual report last year, we knew very little about COVID-19 and its impacts on our business. What we know now is that while many industries have been devastated by COVID-19, others have thrived. Some of our target market segments were directly impacted, but the majority of our client base was not hurt by COVID-19. Sopheon has fared well due to our target focus on industries that were minimally affected, with several clients expanding their use of our Accolade software to support their newly created virtual work environment. As our CFO Arif Karimjee describes in the financial report, we did however experience a lower than normal client retention rate in the first half of 2020, as some customers took short-term cost actions. Retention rates rebounded in the second half of the year and we expect this to continue. While the COVID-19 disruption did delay a few buying cycles during 2020, Sopheon booked more in net new contract value in 2020 than in 2019, which demonstrates the resiliency of Accolade’s value proposition during times of market disruption. In addition, we successfully completed several new client deployments, including Mondelez and Orion Engineered Carbons with entirely remote customer engagements and support activities. Sopheon’s longstanding focus on specific verticals was evident again in 2020, with 100 percent of our ten net new clients coming from our target industries of chemical, consumer goods, aerospace and defense, high-tech and industrial manufacturing. New clients are well-known market leaders, among them DuPont, LG, Hochland, Clif Bar and Mondelez. While our net new pipeline was very active and opportunities continued to move through our sales process we did notice a slow down at the front of the pipeline (suspect development) through mid-2020 but that trend has since shifted in the fall and we exited 2020 with the strongest net new pipe in the history of the company. 10 STRATEGIC REPORT GROWTH STRATEGY Our growth strategy focuses on three key areas. 1 Organic Growth through Strong Ecosystem Networks Leverage blue-chip references to extend our Accolade software as the product of choice to digitalize enterprise innovation in our target markets. Sopheon’s roster of customers is a Who’s Who of the world’s leading companies creating a strong and influential ecosystem. The strong brand of our solution is evidenced by the addition of new customers in food and beverage, consumer goods, chemicals and defense sectors, even in the face of COVID-19. We have continued to concentrate on our core industries to grow market share where we hold preferred positions due to strong competency in our product, best-practice content and expertise of our people. I am proud to share that 100 percent of our new sales in 2020 came from these core verticals, proof of our team’s dedication to executing on our strategy. Sopheon’s long history and experience in these verticals allows us to operate as an industry connector for our clients, introducing them to one another for mutual learning and to advance their competency and success. Despite the strength in this area, we have not captured our share of these markets and will therefore invest efforts to do so. In parallel, we continue to test additional industries for expansion such as the automotive and transportation sectors. Sopheon customers report the following value from digitalizing their innovation processes with Accolade: ^ 75% 15-30% 50% 10-20% Increase Portfolio Value by 75-100% Reduce Time to Market by 15-30% Increase Product/Initiative Success by up to 50% Reduce Costs by 10-20% Expansion from Product to Enterprise Innovation: We continue to see the use of Accolade expand to support additional business needs such as strategic transformation and business innovation initiatives spanning supply chain; smart, connected product innovation; and more. Our strengths were also recognized by Gartner in their research reports on tools for innovation management1, product management and roadmapping2, software for strategy execution management3 and technologies supporting a digital twin of the organization.4 We are in the midst of no ordinary business cycle, but rather one that requires a fundamental transformation by businesses of all sizes and across all industries to operate with more agility and responsiveness. Organizations unable to master this transition will disappear. The key driver of this disruption and resulting "digital revolution" is the changing expectation of customers in the way they choose, buy, obtain and use products. Product innovation is at the heart of our customers’ digital transformation and is, now more than ever, critical for business survival. Executing on digital transformation strategies and initiatives has become an imperative for these organizations. This emerging market represents a considerable addressable target market size as a subset of the overall digital transformation market, which is estimated to exceed $2 trillion by 2025.5 We see this as a unique opportunity for Sopheon to digitalize corporate strategic initiatives, innovation investments and portfolios in a single platform, creating a digital operating model designed to help organizations meet the challenge of digital disruption and enabling a CEO to achieve his or her strategic direction with a velocity that cannot be accomplished without the support of an enterprise innovation management platform. STRATEGIC REPORT 11 2 Transformation to a SaaS Business Transition the revenue model: The benefits of moving our revenue model from perpetual License and Initial Maintenance (LIM) to one emphasizing Annual Recurring Revenue (ARR) delivers higher predictability and is driving our investment in our cloud business strategy. This transformation affects every aspect of our company and all cross-functional operations, and will allow Sopheon to innovate more quickly, shorten the time to acquire new customers, improve business predictability (through reducing license spikes and troughs, guaranteeing recurring revenue and guaranteeing paid support), further improve the scalability and performance of our software, and reduce the cost of service delivery. In addition, we will also better meet our customers’ preference for greater flexibility and alignment of their investment with consumption of the software. We will continue the Cloud transition by further executing on the programs introduced in 2020 – SaaS First selling and Cloud Uplift for on-premises clients. Introduce new cloud offerings for product-led growth: As we continue to invest in new cloud-native SaaS capabilities, we will take advantage of opportunities to promote and sell these new capabilities as market consumable applications using a product-led model that affords product trials, freemium usage and self-service provisioning with no or low-cost implementation. This product-led approach represents a new go-to-market channel and will create a “flywheel” effect to accelerate the rate of new customer acquisition, by providing a base of new customers into which our direct sales teams can upsell larger enterprise SaaS deals. The cloud applications will integrate seamlessly with our current enterprise solution – and over time, we expect many existing enterprise customers to migrate. 3 Non-Organic Growth Partnerships: Sopheon develops and maintains three types of partnerships. Technology Partners provide enabling technologies and integrations that broaden our solutions and reduce demands on our internal R&D effort. Microsoft® continues to be our most important technology partner and in 2020 Sopheon released a deep integration between Accolade and Microsoft Teams to enable customers to use the Teams platform for workstream collaboration on product and enterprise innovation initiatives. This integration extends user adoption to new individuals and workgroups across the enterprise and was recognized by Gartner as a model for all cloud software vendors in its 2020 report on effective remote working.6 Reseller Partners allow Sopheon to sell and support Accolade in regions that require specialized, local knowledge and expertise. Our current reseller partners are Prodex Systems supporting Australia and New Zealand, PCITC supporting China, and Roadmapping Technology supporting certain sectors in the United Kingdom. Consulting Partners provide specialist innovation management expertise that support successful implementation of our Enterprise Innovation Management solutions. We have worked with consulting partners including Accenture, Deloitte, BCG, PWC, Atos, The Adept Group, and Stage-Gate, Inc. M&A: We are actively researching opportunities for M&A. Our criteria are for businesses that could extend the capabilities of our solutions as an alternative to internal R&D, expand our footprint within existing customers, attract customers in new verticals, or extend geographic reach by de-risking the pitfalls of organic growth in new territories. Targets will ideally offer cloud native technologies, contribute to ARR growth, fit into the innovation / product management / strategy space we serve, and offer end-user value and an online sales channel alongside our enterprise solution salesforce. 12 STRATEGIC REPORT WHAT MAKES SOPHEON DIFFERENT Our Culture As a company and as individuals we value integrity, honesty, openness, inclusion, personal excellence, continual self-improvement and mutual respect. These core values contribute to a culture that sets us apart. At a time when technology companies are experiencing unprecedented turnover, Sopheon is proud of our employee retention of almost 90 percent. The many employees whose tenure is 10 years or longer contributes in a unique and critical way to instilling our cultural values into the mentoring of new Sopheonites as they undergo onboarding. “The work is challenging… it doesn’t get dull!” “We’re always upgrading [technologically] and playing with new tools.” “It’s truly a team, you have a voice and are heard.” “[Sopheon is] the most flexible and open company I’ve worked for.” “As long as your work gets done, you have autonomy and flexibility.” “Good people who are energetic and good to be around.” Our People Innovation Specialists with Deep Experience We have long-term partnerships with some of the most admired innovators and domain experts in the world. This has provided us the opportunity to learn, invest and continue to serve the needs of such market leaders. It is this foundational expertise that has differentiated Sopheon from others in the market. Our clients tell us our people are caring, give them high marks for domain knowledge and commitment to their success. • “Sopheon set itself apart with the promise of best-practice content embedded in its software to guide us in defining our new processes, and its knowledgeable and highly responsive team.” (Endress+Hauser) • “We have found in Sopheon a professional, trustworthy and flexible partner who not only meets the regulatory requirements for hosting our sensitive project data but proved to have a deep understanding of our business needs and processes." (innoEnergy) • “You both have been extremely engaging and proactive in improving our environment.” (Fortune 500 consumer goods firm) STRATEGIC REPORT 13 Commitment to Delivering Customer Value We have had solid uptake and market response to our Value Assurance Approach (VAA) program as a way to streamline the path to customer value and mitigate implementation value risk. In addition to integrating learnings and evolving the process and content, we’ve expanded the program to introduce a higher level of reuse in what is delivered to customers with prescriptive deliverables and approaches. To further assure customer success, we have begun developing an education and training structure to better enable customers to drive effective usage through their organizations. Our focus on these areas in the past couple of years has created a solid foundation that will allow us to continue to scale our ability to deliver customer value faster, grow our client base and increase client satisfaction. Additional investment in a Customer Success organization is planned to further scale as we expand our SaaS offerings to the market to assure that we not only acquire and lead customers to value quickly, but we are also able to mature and retain those customers for the long term. Our Product Sopheon’s product team continued to steadily improve and grow Accolade’s ability to empower our customers’ innovation lifecycles while addressing the impact COVID-19 has had on their processes and innovation programs. In addition to introducing new market-facing capabilities, we invested in our underlying technologies and capabilities that support our cloud and product-led growth initiatives. In 2020 we maintained a regular release cadence while also quickly bringing new and innovative capabilities to market to directly address the disruption caused by COVID-19. • Accolade Disruption Response Toolkit, released in April, introduced capabilities to view, assess and analyze risks and opportunities based on impacts to consumer demand and available production capacity, supply chains, distribution networks, workforce, and capital. Product and project portfolios can quickly and easily be assessed, recommendations for actions collected, and multiple scenarios then presented for informed executive decision making. impacts of the disruption in this way. It gave me a fresh perspective on how we could be “ When I saw this new toolkit, I realized that we simply hadn’t considered the looking at this.” – Heidi Akkerman Senior Innovation Manager, Hormel Foods • Accolade Disruption Offering with deep integration to Microsoft Teams, also released in April, streamlines communication across dispersed innovation team members via Microsoft Teams chat, meetings and video calls. Team members can easily initiate real-time and secure Microsoft Teams communications directly from within Sopheon’s Accolade, thereby improving information flow within project teams and across all stakeholders. • Accolade 13.1, released in May, was focused around three themes – engaging work groups, providing insights and improving usability and administration – all of which continued to extend Accolade’s ability to empower users to plan and execute complex product development programs. The release enabled even deeper controls and visualizations for iterative planning and trend analysis for faster response to new market conditions. • Accolade Connect for Microsoft 365, released in May along with Accolade 13.1, further extended the Accolade 13.1 theme of Engaging Teams by empowering collaboration and team engagement directly through synchronized data and content between Accolade and Microsoft Office 365 documents. • Accolade 13.2, released in November, furthered our ability to help companies prioritize the most pressing issues first while ignoring distraction. This was enabled through improved interactive data visualizations that enable informed decision making by providing a faster path to uncovering critical insights. 14 STRATEGIC REPORT 2021 product investments are planned in support of our cloud strategy, and include the expansion of our product management organization, creation of our Product Led Growth solutions and the building out of our cloud infrastructure. This will help both our business leaders and technical users gain immediate answers to their questions, which will dramatically increase the speed to decisions. The value of this “ The ability to engage interactively with our data and manipulate it in situ is exciting. is enormous.” – Dave MacAdam Director of Innovation Strategy, Novelis Our Clients Sopheon is proud of the quality of our blue-chip customer base. Legendary brands to join the Sopheon fold in 2020 include Mondelez, DuPont, Orion Engineered Carbons, Huber, Hochland, J.R. Simplot, Clif Bar, LG and others. These market leaders provide a strong revenue stream from ongoing maintenance renewals, plus the nature of the relationship offers potential for expanding our user base and application of our software into new areas of their business. Our client base of global innovation leaders has grown to be an additional differentiator for us as our clients increasingly benefit through collaboration, sharing and learning across this ecosystem. This value is shared by longstanding clients and by new clients coming into the Sopheon network. Client Product Uptake and Satisfaction Migration to current releases is strong At the time of our Accolade 13.2 release in November 2020 over 94 percent of our clients were on supported releases, up from last year’s reported 90 percent. We remain confident in our growth trajectory and work with passion to achieve the unique market opportunity ahead. Accelerated digital disruption across almost all industries presents a strong driver for Sopheon’s growth. As legacy corporations adapt to new competition from digital start-ups and high-tech companies, they are forced to increase the scope and pace of innovation in order to survive. Sopheon’s solutions solve for this challenge. A summary of the principal risk areas facing the business is set out in the Directors' Report. Approved by the board and signed on its behalf by: Andy Michuda CEO 23 March 2021 1 Gartner, Market Guide for Innovation Management Tools, 30 November 2020 (ID: G00729938) 2 Gartner, Market Guide for Product Management and Roadmapping Tools, 5 September 2020 (ID: G00727147) 3 Gartner, Market Guide for Strategy Execution Management Software, 25 November 2019 (ID: G00379060) 4 Gartner, Market Guide for Technologies supporting a DTO, 18 December 2019 (ID: G00464474) 5 Research and Markets, "Digital Transformation Market to 2025” 6 Gartner, To Enable Effective Remote Work, Build Collaboration Features Natively Into your Software Products, 27 July 2020 (ID: G00726943) 15 15 FINANCIAL REVIEW In this report, our CFO Arif Karimjee provides further analysis of Sopheon’s financial results during 2020, our financial position at the end of the year, and an overview of key corporate developments. Trading Performance As highlighted by Barry in the Chairman’s Statement, sales bookings increased while top line performance for 2020 was broadly flat at $30.0m (2019: $30.3m) despite twin headwinds, being the incidence of the coronavirus pandemic, and also the revenue impact of migrating the business towards a SaaS model. Total license order volume (including SaaS deals) remained solid at 43 (10 new) license transactions compared to 47 (18 new) the year before; however, the make-up of those deals changed sharply – 22 were SaaS compared to 9 the year before; and 8 (6 new) were at the $1m level or more compared to just 2 (1 new) the year before. Major wins announced included Mondelez, LG, Orion Engineered Carbons and DuPont. These metrics demonstrate both commercial traction with enterprise class accounts, and SaaS traction across the board. The TCV of SaaS business almost tripled from $2.4m to $6.6m, contributing strongly to ARR growth and underpinning the conversion of the business to a recurring model. Overall revenue recognized from recurring relationships – maintenance, hosting and SaaS – rose to $17.3m from $15.5m in 2019, and ARR at the end of the year had risen to $18.0m (2019: $15.9m). In tune with these trends, perpetual license recognition was $3.0m compared to $5.8m the year before. Consulting services revenue, which is recognized as it is delivered, was $9.7m compared to $9.3m the year before. Stepping back from the detailed movements by category, the TCV of all contracts signed in 2020 rose by 25 percent to $21.2m. SaaS and ARR As Andy has noted, we took two deliberate steps to accelerate SaaS signings in 2020. For new customers, we successfully transitioned the sales team to a “SaaS First” approach where all new customers are encouraged to adopt the SaaS model. For existing perpetual customers that do not host with Sopheon, we have developed a “Cloud Lift” program to encourage them to upgrade their perpetual license to a SaaS license, delivering good ROI by taking on hosting and certain managed services. Four perpetual customers took advantage of Cloud Lift during 2020. We believe this program will gain market momentum due to a market-wide trend to remove corporate IT infrastructure and shift this burden to vendors. The TCV of SaaS business almost tripled from $2.4m to $6.6m, contributing strongly to ARR growth and underpinning the conversion of the business to a recurring model. 16 STRATEGIC REPORT As highlighted by the metrics above, the conversion of Sopheon’s revenue model to SaaS accelerated during 2020 alongside the overall growth in bookings. ARR growth was held back by gross retention at 91.5 percent (2019: 94.2 percent). Although respectable by most standards, it was lower than we are used to but unsurprising given the challenging market conditions for some of our customers. We do note however that two-thirds of the churn value happened in the first half of the year, with a rebound to normal levels during the second half. Our customer base reports they are generally satisfied, with our net promoter (“NPS”) surveys recording an overall NPS score of 35 in 2020. Down on 2019’s score of 40, a score of 35 is still considered excellent for B2B enterprise software. Our customers remain keen to take on new functionality, with 94 percent of them on Accolade versions 12 or 13, the current supported releases. Further underlining the strength of customer relationships and the appeal of the software, we note that there were 33 license orders from existing customers during the year. Seasonality and Geography The revenue calendarization pattern broadly held to experience with the second half of the year accounting for 54 percent of revenues (2019: 55 percent and 2018: 53 percent). As the business migrates to a more recurring model, we expect this seasonality to decline in importance; however, looking at sales bookings rather than recognized revenues, the final quarter continues to dominate with 44 percent of TCV signed (2019: 48 percent). Though our core markets of the United States and Europe dominate revenues, we continue to see traction in other locations with signings in Korea, Canada, Australia, Japan and Turkey. Our activities in the Pacific region continue to be managed through partners while the broader Americas, Europe and Middle East markets are addressed by our direct sales teams. Unlike 2019, which saw our performance overweight in the United States compared to the past, 2020 was more balanced across the two main regions both in terms of overall revenues and major deal signatures. Overall European revenues including recurring revenues were 37 percent of the total compared to 32 percent the year before. Gross Margin Gross margin was 69.8 percent, compared to 70.1 percent in 2019. This remains well within the historical range. Gross margin is calculated after deducting the cost of our consulting organization – both payroll and subcontracted; costs and charges associated our hosting activities, some license royalties due to OEM partners and costs and credits relating to certain indirect taxes. As in previous years, we maintained use of subcontractors last year alongside some new hires, allowing for greater flexibility. We took two deliberate steps to accelerate SaaS signings in 2020. For new customers, we successfully transitioned the sales team to a “SaaS First” approach where all new customers are encouraged to adopt the SaaS model. For existing perpetual customers that do not host with Sopheon, we have developed a “Cloud Lift” program to encourage them to upgrade their perpetual license to a SaaS license, delivering good ROI by taking on hosting and certain managed services. Pipeline Revenue visibility for the year now stands over $24.5m compared to $21.2m at this time a year ago. This is quite a step up, supported by ARR growth already referenced. In addition, we have seen interesting development in the sales pipeline. By the end of 2019, it was over 50 percent higher year on year. By June 2020, it had dipped a little, but we saw a rebound in the second half of the year, and it ended 2020 up another 10 percent compared to the 2019 closing level. Within the pipeline, we continue to show rising levels of SaaS opportunities and increasing numbers of larger deals, all in line with the overall strategy. STRATEGIC REPORT 17 Research and Development Expenditure Overall expenditure in product development in 2020 increased again by approximately $0.5m to $6.9m. These amounts can be compared to the headline research and development reported in the income statement showing an increase from $5.7m to $5.9m; the differences are due to the effects of capitalization and amortization of development costs. This continued expansion of resources will permit Sopheon to embark on the cloud application development strategy that Andy has described in his report. We are maintaining investment in our core enterprise Accolade solution, while also developing cloud-native applications that will bring multiple benefits in the short and medium term. Overall, the amount of 2020 research and development expenditure that met the criteria of IAS38 for capitalization was $3.7m (2019: $3.0m) offset by amortization charges of $2.7m (2019: $2.3m). The higher capitalization rate reflects the greater resources referred to above; the consequent impact on amortization will come through over time as the products are released. Capitalized costs in 2020 are largely attributable to the group’s investment in the Accolade 13.1, 13.2 and 13.3 versions, and our first cloud-native release. The Accolade 13.1 and 13.2 releases were issued during 2020; the other two will be released in 2021. Other Operating Costs Payroll costs continue to represent over three quarters of our cost base. Sopheon has a relatively mature and highly qualified blend of staff, reflecting the professional and intellectual demands of our chosen market. Our original 2020 plans had ambitious hiring goals, but when the pandemic struck, we froze hiring for several months. Nevertheless, we ended last year with 169 staff, compared to 162 at the end of 2019, many of whom were hired late in the year. Average headcount for the year was 165 (2019: 160). Several recruits over the past year were senior. The higher overall wage costs of $1.4m as reported in Note 7 of the financial statements reflects these additional staff, the annual pay adjustment, and the cost of our corporate bonus scheme, for which all non-sales staff in the company are eligible. The bonus is mainly linked to annual EBITDA goals, and is paid in the following year. In parallel, subcontracting costs rose by approximately $0.4m. Historically, we held back from offshoring technical roles due to management and productivity concerns linked to our smaller scale. This started to change in 2019, and we now have a team of ten working in India through an outsourcing firm to support both consulting and development efforts, more than double the year before. We made significant savings with non-payroll costs which were $1.1m lower thanks mainly to reduced travel costs. We have seen interesting development in the sales pipeline. By the end of 2019, it was over 50 percent higher year on year. By June 2020, it had dipped a little, but we saw a rebound in the second half of the year, and it ended 2020 up another 10 percent compared to the 2019 closing level. Switching to a functional view, specific comments regarding consulting operations and research and development costs are noted above. Overall costs in the sales and marketing area increased by approximately $0.3m. This mainly reflects increases in both product marketing and marketing communications and commercial leadership, offset by lower commission and incentive payments in the sales area. Administration costs have fallen slightly by just over $0.1m with higher staff costs in the IT area offset by lower overheads and share option charges. This area includes all other overheads, office costs, regulatory and compliance costs, and depreciation, as well as the full impact of the notional charge for share option grants, which is allocated entirely to this caption. With regard to foreign exchange, the group aims to incorporate a natural hedge through broadly matching revenues and costs within common currency entities, reducing the need for active currency management. In addition, it is not the group’s policy to hedge currency cash holdings, but we do look to keep cash balances in local currency within an entity and to time currency purchases so as to minimize impacts on the individual income statements. 18 STRATEGIC REPORT Results and Corporate Tax Adjusted EBITDA (Earnings before interest, tax, depreciation, amortization and employee share-based payment charges) is a key indicator of the underlying performance of our business, commonly used in the technology sector. It is also a key metric for management and the financial analyst community. This measure is further defined and reconciled to profit before tax in Note 5. The combined effect of the revenue and cost performance discussed above has resulted in Sopheon’s Adjusted EBITDA performance for 2020 moving to $5.9m, from $6.4m in 2019. Profit before tax reduced to $1.7m (2019: $2.5m) with the larger movement due mainly to the higher amortization associated with capitalized development costs. The tax charge of $0.2m (2019: $0.4m credit) reported in the income statement comprises two main elements. Although Sopheon benefits from accumulated tax losses in several jurisdictions including at the US federal level, this is not universal, and accordingly a current tax charges of approximately $0.1m each was incurred in Germany and for state taxes in the US. In addition, a $2.6m deferred tax asset is recognized at both 31 December 2019 and 2020, of a total potential asset of $11.1m (2019: $10.6m). Altogether this leads to a profit after tax of $1.5m (2019: $2.0m). This has also resulted in profit per ordinary share on a fully diluted basis of 14 cents (2019: 19 cents). Although the impact of COVID-19 on Sopheon has been limited compared with many other organizations, we are closely monitoring its effect on the business as the pandemic continues to affect the global economy. This includes modelling the effects of various revenue scenarios with associated cash flow forecasts for a period in excess of 12 months. Assessment of the impact of COVID risks on the group going concern assumption are set forth in the Directors’ Report and the Notes to the financial statements. Statement of Compliance with Section 172 of the Companies Act 2006 Legislation requires that directors include a separate statement in the annual report that explains how they have had regard to wider stakeholder needs when performing their duty under Section 172(1) of the Companies Act 2006. This duty requires that a director of a company must act in the way he or she considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole and in doing so have regard (amongst other matters) to: a) the likely consequences of any decision in the long term; b) the interests of the company's employees; c) the need to foster the company's business relationships with suppliers, customers and others; d) the impact of the company's operations on the community and the environment; e) the desirability of the company maintaining a reputation for high standards of business conduct; and f) the need to act fairly as between members of the company. Guidance recommends that in connection with its statement, the board describe in general terms how key stakeholders, as well as issues relevant to key decisions, are identified, and also the processes for engaging with key stakeholders and understanding those issues. It is the board’s view that these requirements are addressed in the corporate governance disclosures we have made in the Directors’ Report, which are themselves more extensively discussed on the company’s website. Guidance also recommends that more detailed description is limited to matters that are of strategic importance in order to remain meaningful and informative for shareholders. The board believes that two decisions taken during the year fall into this category and engaged with internal and external stakeholders on this. These are: • The decision to impose a travel ban and shift to a work-from-home model in early March 2020, before governments encouraged or mandated such steps. We decided to act promptly in order to ensure the safety of our people, and also because we were confident that we had the infrastructure and tools to ensure a seamless shift. Of equal importance was our conviction that Sopheon’s culture would readily weather such a transition. The board was proved right on all these measures. • The decision to underpin the group’s shift to SaaS by investing in a cloud-native platform alongside our enterprise Accolade solution. As described in the Chairman’s Statement and the Strategy & Market Review, a cloud platform will enable more rapid product development velocity and be even more responsive to market needs, and STRATEGIC REPORT 19 will open up a new sales channel that will also act as a lead generator for our enterprise sales. We are making sure that our cloud products can integrate seamlessly with the enterprise solution. This decision adds to the coding complexity and cost, but we believe is vital to greater long-term success and to enhance shareholder value. Dividend The board is pleased to maintain Sopheon’s dividend at 3.25 pence per share for the year ended 31 December 2020 (2019: 3.25p). We believe this level balances the group’s tighter bottom line last year, and the challenging global economic environment, with the positive commercial traction, cash generation and balance sheet strength that Sopheon nevertheless delivered. Subject to approval by the company’s shareholders at the annual general meeting scheduled for 10 June 2021, the dividend will be paid on 9 July 2021 with a record date of 11 June 2021. The board is pleased to maintain Sopheon’s dividend at 3.25 pence per share for the year ended 31 December 2020. We believe this level balances the group’s tighter bottom line last year, and the challenging global economic environment, with the positive commercial traction, cash generation and balance sheet strength that Sopheon nevertheless delivered. Facilities and Assets As noted last year, the board allowed the group’s revolving line of credit facility with Silicon Valley Bank to lapse in February 2020, in view of substantial net cash balances on hand. As detailed below cash levels rose further during 2020 in spite of the tough environment. Our relationship with Silicon Valley Bank remains strong with potential established for funding arrangements in connection with M&A or other corporate activity. Intangible assets stood at $7.9m (2019: $6.9m) at the end of the year. This includes (i) $6.9m being the net book value of capitalized research and development (2019: $5.9m) and (ii) an additional $1.0m (2019: $1.0m) being goodwill arising on acquisitions completed in previous years. As stated above in our discussion of research and development costs, capitalization and amortization have been broadly in balance for a number of years; however, capitalization has accelerated, and amortization has yet to catch up, as development resources have expanded over the last couple of years. Our spend on tangible fixed assets was held to $0.4m last year (2019: $0.3m) and this broadly equaled depreciation, resulting in net book value staying flat at $0.5m at the end of the year (2019: $0.5m). As described in Note 1, the adoption of IFRS 16 in 2019 required lessees to recognize a lease liability that reflects future lease payments and a "right-of-use asset" in all lease contracts within scope, with no distinction between financing and operating leases. This has resulted in net book value of right-of-use assets of $1m (2019: $1.6m) and corresponding lease liabilities of $1.1m (2019: $1.6m) at 31 December 2020. Notional amortization and interest charges in connection with the above recognized in the income statement were approximately $0.7m (2019: $0.8m). Consolidated net assets at the end of the year stood at $30.2m (2019: $27.9m), an increase of $2.3m and including net current assets of $18.7m (2019: $17.2m). Within the net current asset position, net cash at 31 December 2020 amounted to $21.7m (2019: $19.4m). Approximately $9.1m was held in US Dollars, $10.2m in Euros and $2.4m in Sterling. The group has no debt (excluding notional debt from the adoption of IFRS 16). Approved by the board and signed on its behalf by: Arif Karimjee CFO 23 March 2021 20 GOVERNANCE D I R E C T O R S A N D A D V I S O R S Directors Barry K. Mence Andrew L. Michuda Arif Karimjee ACA Stuart A. Silcock FCA Daniel Metzger Executive Chairman Chief Executive Officer Finance Director Non-executive Director Non-executive Director Please refer to the inside back cover of this report for details of the professional background of each director. Secretary Arif Karimjee Registered Office Registered Name and Number Dorna House One 50 Guildford Road West End, Surrey GU24 9PW Sopheon plc Registered in England and Wales No. 03217859 Auditors Principal Bankers and Financiers Solicitors and Attorneys AIM Nominated Adviser and Broker Registrars BDO LLP 55 Baker Street London W1U 7EU Silicon Valley Bank 3003 Tasman Drive Santa Clara, CA 95054 United States Rabobank Amsterdam Van Baerlestraat 102-106 1071 BC Amsterdam The Netherlands Squire Patton Boggs 7 Devonshire Square Cutlers Gardens London EC2M 4YH Loyens & Loeff Fred Roeskestraat 100 1076 ED Amsterdam The Netherlands finnCap Limited 60 New Broad Street London EC2M 1JJ Link Asset Services 65 Gresham Street London EC2V 7NQ Silicon Valley Bank Alphabeta 14-18 Finsbury Square London EC2A 1BR Commerzbank Rheinstrasse 14 64283 Darmstadt Germany Briggs and Morgan 2200 IDS Center, 80 South 8th Street Minneapolis, MN 55402 United States GOVERNANCE 21 B O A R D C O M M I T T E E R E P O R T S Remuneration Committee The remuneration committee of Sopheon plc is responsible for oversight of the contract terms, remuneration and other benefits for executive directors, including performance-related bonus schemes. The committee comprises two non- executive directors, D. Metzger and S.A. Silcock, together with B.K. Mence, other than in respect of his own remuneration. The committee makes recommendations to the board, within agreed parameters, on an overall remuneration package for executive directors and other senior executives in order to attract, retain and motivate high quality individuals capable of achieving the group’s objectives. The package for each director consists of a basic salary, benefits and pension contributions, together with performance-related bonuses and share options on a case-by-case basis. Consideration is given to pay and employment policies elsewhere in the group, especially when considering annual salary increases. From time to time, the remuneration committee may take advice from appropriate remuneration consultants or consult benchmarking data. Contracts The service contract between the company and Mr. Michuda is terminable on up to three months’ notice, with an additional twelve months’ salary in lieu of notice due by the company in the event of termination without cause. Service contracts between the company and the other executive directors are terminable on six to nine months’ notice. Fees for Non-executive Directors The fees for non-executive directors are determined by the board. The non-executive directors are not involved in any discussions or decisions about their own remuneration. Directors’ Remuneration Set out below is a summary of the fees and emoluments received by all directors during the year, translated where applicable into US Dollars at the average rate for the period. Benefits primarily comprise healthcare insurance and similar expenses. Details of directors’ interests in shares and options are set out in the Directors’ Report. Pay and Fees 2020 $’000 Bonus Benefits 2020 $’000 2020 $’000 Pay and Fees 2019 $’000 Total 2020 $’000 Bonus 2019 $’000 Benefits 2019 $’000 Total 2019 $’000 Executive Directors B.K. Mence A.L. Michuda A. Karimjee Non-executive Directors S.A. Silcock D. Metzger 211 339 204 34 34 822 50 82 38 - - 13 11 9 - - 274 432 251 34 34 170 33 1,025 203 330 196 33 33 795 38 63 37 - - 138 12 11 5 - - 28 253 404 238 33 33 961 The remuneration committee establishes the objectives that must be met for each financial year if a cash bonus is to be paid. With the principal exception of members of Sopheon’s sales teams, for whom incentives are tied to individual or territory results, the committee concluded that the cash incentive should be tied to the financial performance of the group as a whole, and in 2019 and 2020 these objectives were set with regard to Adjusted EBITDA performance. These measures were applied to all members of the executive board and management committee of the group, as well as the majority of the group’s employees. In addition to the amounts disclosed above, pension contributions are made to individual directors’ personal pension schemes. During 2020 contributions of $9,058, $6,269 and $9,563 (2019: $8,963, $3,599 and $9,187) were paid respectively to the pension schemes of B.K. Mence, A.L. Michuda and A. Karimjee. 22 GOVERNANCE Performance Graph The following graph shows the company’s share price performance on AIM since January 2014, in British pounds Sterling, compared with the performance of the FTSE AIM All Share index, which has been selected for this comparison as it is a broad-based index which the directors believe most closely reflects the performance of companies with similar characteristics as the group’s. Historical share prices have been adjusted to reflect the net 20:1 share consolidation performed by the group during 2013. 16 14 12 10 8 6 4 2 0 Dec 14 June 15 Dec 15 June 16 Dec 16 June 17 Dec 17 June 18 Dec 18 June 19 Dec 19 June 20 Dec 20 Sopheon Share Price AIM All-Share Rebase Directors’ Interests The interests of the directors, who held office at the end of the year, in the share capital of the company were as follows: At 31 December B.K. Mence A.L. Michuda A. Karimjee S.A. Silcock D. Metzger Share Options Ordinary Shares 2020 2019 2020 2019 24,250 320,000 85,500 - - 24,250 290,000 85,000 - - 2,228,537 84,155 82,493 520,318 5,000 2,228,537 84,155 82,493 520,318 5,000 With respect to the interests stated above for B.K. Mence, S.A Silcock and A. Karimjee, their respective spouses are the beneficial owners of 15,575, 8,875 and 32,493 ordinary shares each. An additional 7,250 of the ordinary shares disclosed for S.A. Silcock are held as trustee or executor for family members. Accordingly, the personal interest of B.K. Mence is in 2,212,962, S.A. Silcock in 504,193 and A. Karimjee in 50,000 ordinary shares. On 26 February 2021, each of B.K. Mence, A.L. Michuda, S.A. Silcock and A. Karimjee respectively sold 356,829, 185,036, 166,500 and 48,343 shares to a number of financial institutions in an oversubscribed placing at a price of 900 pence per share, for the purposes of estate planning and to improve the liquidity in the Company’s shares. On the same day, each of B.K. Mence, A.L. Michuda and A. Karimjee respectively exercised 24,250, 165,000 and 35,850 options. GOVERNANCE 23 The following table provides information for each of the directors who held office during the year and held options to subscribe for Sopheon ordinary shares. All options were granted without monetary consideration. Date of Grant Exercise Price At 31 December 2019 Granted Exercised During Year During Year At 31 December 2020 B.K. Mence B.K. Mence A.L. Michuda A.L. Michuda A.L. Michuda A.L. Michuda A.L. Michuda A.L. Michuda A.L. Michuda A. Karimjee A. Karimjee A. Karimjee A. Karimjee A. Karimjee A. Karimjee A. Karimjee A. Karimjee 29 September 2012 5 December 2013 29 September 2012 5 December 2013 8 April 2016 15 February 2017 11 February 2018 4 July 2018 13 July 2020 27 August 2010 29 September 2012 5 December 2013 8 April 2016 15 February 2017 11 February 2018 4 July 2018 13 July 2020 105p 85p 105p 85p 87.5p 467.5p 565p 900p 775p 150p 105p 85p 87.5p 467.5p 565p 900p 775p 6,125 18,125 100,880 49,000 15,120 25,000 50,000 50,000 - 7,500 3,125 26,875 5,850 11,650 15,000 15,000 - - - - - - - - - 30,000 - - - - - - - 8,000 - - - - - - - - - (7,500) - - - - - - - 6,125 18,125 100,880 49,000 15,120 25,000 50,000 50,000 30,000 - 3,125 26,875 5,850 11,650 15,000 15,000 8,000 Vesting of all of the above share options which were outstanding at 31 December 2020 is in three equal tranches on the first, second and third anniversaries of the date of grant and all such options expire on the tenth anniversary of the date of grant. The mid-market price of Sopheon ordinary shares at 31 December 2020 was 790p. During the financial year the mid-market price of Sopheon ordinary shares ranged from 490p to 955p. Save as disclosed above, no director (or member of his family) or connected persons has any interest, beneficial or non-beneficial, in the share capital of the company. Audit Committee The Audit Committee, which includes all of the non-executive directors and is chaired by Stuart Silcock, considers and determines actions regarding any control or financial reporting issues they have identified, or that have been raised by the auditors. During the year, the Audit Committee met twice, and the external auditor and executive directors were invited to attend these meetings. Consideration was given to the external auditor’s post-audit reports and these provide opportunities to review the accounting policies, internal control and financial information contained in both the annual and interim reports, as well as the independence of the external auditor. The committee chair is also able to meet with the auditors independently if required. Approved by the board on 23 March 2021 and signed on its behalf by: A. Karimjee Director 24 GOVERNANCE D I R E C T O R S ’ R E P O R T The group’s principal activities during the year continued to focus on the provision of software and services for complete Enterprise Innovation Management solutions. The Chairman’s Statement on page 6 includes reference to the group’s future prospects. In view of the fact that approximately two-thirds of the group’s revenues and staff are based in the United States, the group’s financial statements are presented in US Dollars. The board is pleased to recommend a final dividend in respect of the year ended 31 December 2020 of 3.25 pence per share (2019: 3.25 pence per share), amounting to £332,000 (2019: £331,000). Directors The directors who served during the year are disclosed in the Board Committee Reports. Corporate Governance The Sopheon board is committed to maintaining high standards of corporate governance. In accordance with AIM Rule 26, AIM quoted companies are required to adopt and give details of the corporate governance code which they have adopted and to show how they are following it. In September 2018, the board adopted the Quoted Companies Alliance’s (QCA) Corporate Governance Code for small and mid-size quoted companies (the “QCA Code”). Of the recognized codes generally adhered to by AIM companies, the QCA Code has been drafted with smaller businesses in mind, with a pragmatic and principles-based approach. It was therefore deemed by the board to be the most suitable. The board had previously established an internal project to update its internal risk management procedures with a new enterprise risk framework based on the provisions proposed by COSO (Committee of Sponsoring Organizations of the Treadway Commission) with a view to incorporating a formal risk review agenda point in each board meeting. Key principles of the QCA Code have been incorporated into this risk management process. Solid corporate governance is the foundation on which the business is managed, and this is supported by the range of talents of the directors. Biographies of the directors appear inside the back cover and demonstrate a range of experience and caliber to bring the right level of independent judgment to Sopheon’s business. Ensuring financial strength alongside growth objectives is a key guiding principle, supported by an effort to ensure solid communication with shareholders. The chairman is responsible for leading the board and for its overall effectiveness in directing the group, and for ensuring that the board implements, maintains and communicates effective corporate governance processes and for promoting a culture of openness and debate designed to foster a positive governance culture throughout the group. The board is responsible for the group’s system of internal control and for reviewing its effectiveness. Such a system can only provide reasonable, but not absolute, assurance against material misstatement or loss. The board believes that the group has internal control systems in place appropriate to the size and nature of its business. The board is satisfied that the scale of the group’s activities does not warrant the establishment of an internal audit function. The board is also responsible for identifying the major business risks faced by the group and for determining the appropriate course of action to manage those risks. Formal meetings are held quarterly to review strategy, management and performance of the group, with additional meetings between those dates convened as necessary. During 2020, all directors attended all quarterly meetings either in person or by conference call. The QCA Code identifies ten principles that focus on the pursuit of medium- to long-term value for shareholders without stifling entrepreneurial spirit. Sopheon’s adoption of the QCA principles is summarized in the table below. Further details are made available on our website at www.sopheon.com/board-governance. GOVERNANCE 25 QCA Principle Sopheon Adoption 1. Establish a strategy and business model which promote long-term value for shareholders Sopheon’s mission is to help our customers achieve exceptional long-term growth and profitability through sustainable innovation. Our guiding philosophy is to balance aggressive growth strategies with a focus on profitability, while also ensuring long-term financial stability. We believe the combination of these three factors will maximize long- term value for shareholders. Full information on the group’s strategy and business model can be found in the Strategic Report on pages 6 to 19. 2. Seek to understand and meet shareholder needs and expectations The board engages with shareholders and the broader investment community via a variety of channels and activities including the annual general meeting, updates to shareholders via reporting and the regulatory news service, and institutional presentations. The Chairman and CFO are the primary contacts for investor interaction alongside finnCap, with the CEO ensuring availability to meet investors when visiting Europe from his US base. 3. Take into account wider stakeholder and social responsibilities and their implications for long-term success Sopheon’s culture is very open and this includes reaching out and seeking feedback and insights from our various stakeholders. In addition to the investor outreach described above, key practical elements of this philosophy for other stakeholders include having a flat organization with few tiers of management, meeting regularly; all-hands communications via web-meetings; customer engagement through account management, satisfaction surveys and user forum events; and broader market engagement through close relationships with sector analysts such as Gartner and Forrester Research. 4. Embed effective risk management, considering both opportunities and threats, throughout the organization The board is responsible for identifying the major business risks faced by the group and for determining the appropriate course of action to manage those risks. In 2017 the board adopted a framework for the effective identification, assessment, and management of risks to the achievement of corporate objectives. The risk management process is managed in Accolade and is embedded in our quarterly meeting cycle. The risks that the board consider to be principal risks to the group’s business are set out on page 26. 5. Maintain the board as a well-functioning, balanced team led by the chair The QCA Code requires that boards have an appropriate balance between executive and non-executive directors and that each board should have at least two independent directors. The board is made up of three executive directors and two non-executive directors. The two non-executive directors are mature, experienced and independent persons who have each succeeded in their own businesses and are not dependent upon income from the group. They have developed a strong and detailed understanding of the business, and are prepared and able to intervene and challenge the executive directors. 6. Ensure that between them the directors have the necessary up-to- date experience, skills and capabilities Details of the background and experience of the directors of the company are set out inside the back cover of this report. These demonstrate that our team collectively has the necessary skills and experiences, as well as the required caliber, to carry out the group’s strategy and business model effectively. With regard to the non-executive directors, one is a financial specialist and the other is an industry specialist, and both have prior experience of working in a public company environment. Furthermore, one is America based and the other Europe based, reflecting the geographical footprint of the group. 7. Evaluate board performance based on clear and relevant objectives, seeking continuous improvement A board self-evaluation process led by the chairman takes place in July each year, using a QCA-sponsored questionnaire and process. Low scoring or divergent scoring responses are discussed, with gaps and actions for improvement identified. This was last performed formally in 2019. 8. Promote a corporate culture that is based on ethical values and behaviors Sopheon’ core values statement and guiding principles, developed by the extended management team, support the group’s culture with a strong footing in ethical values. These are reinforced in the staff handbook and the staff appraisal and development process, which formally embeds cultural and ethical considerations as part of each employee’s self-evaluation. 9. Maintain governance structures and processes that are fit for purpose and support good decision- making by the board Formal board meetings are held quarterly to review strategy, management and performance of the group, with additional meetings between those dates convened as necessary. We have two board committees, the Audit Committee and the Remuneration and Appointments Committee. The terms of reference of both these committees of the board have been revised to reflect the principles of the QCA Code and are available online. 10. Communicate how the company is governed and is performing by maintaining a dialog with shareholders and other relevant stakeholders The group’s approach to investor and shareholder engagement is described under Principle 2 above. Annual reports, Annual General Meeting notices, regulatory announcements, trading updates and other governance-related materials since the year 2000 are available from the group’s website. 26 GOVERNANCE Post Balance Sheet Events There are no post balance sheet events that warrant disclosure in the financial statements. Research and Development A summary of research and development activities and the key benefits and enhancements to the Sopheon Accolade solution is set out in the Strategic Report. A summary of the expenditure incurred and the accounting treatment thereof is set out in the Financial Review of the Strategic Report. Principal Risk Areas As with any business at its stage of development, Sopheon faces a number of risks and uncertainties. The board monitors these risks on a regular basis. The key areas of risk identified by the board are summarized below. Sopheon’s markets are emerging and this means that Sopheon's growth may be erratic. The broad market for Sopheon’s software products continues to emerge and evolve, and the timing and size of individual sales can have a substantial impact on performance in a given period. Sopheon has formalized processes for soliciting input to product strategy from analysts and customers, while also capitalizing on the group’s leadership in key market areas. Sopheon also seeks to improve revenue predictability by introducing specific initiatives to balance efforts between new customer acquisition and meeting the needs of existing customers. Sopheon’s consistently growing recurring revenue base should also improve revenue predictability. Sopheon’s prospects for achieving sustained and growing profitability are dependent on correctly aligning investments with sales. Sopheon’s ability to continue to finance its investments at the optimal pace is dependent on the group maintaining profitability and sales growth alongside its investment strategy or having appropriate financial resources in place to invest with confidence. Sopheon has sought to focus its resources on the sub-segments that it believes offer the best opportunities for growth. Sopheon management carefully monitors short- and medium-term financing requirements and has regularly raised additional funding resources to meet requirements. Some of Sopheon’s competitors and potential competitors have greater resources than Sopheon. Sopheon remains a relatively small organization by global standards. Its resources are small compared to those of many larger companies that are capable of developing competitive solutions and it can be difficult to overcome the marketing engine of a large global firm. Sopheon seeks to compete effectively with such companies by keeping its market communications focused, clear and consistent with its product and market strategy, and working to deliver first class quality of execution so that referenceability of the customer base is maximized. Sopheon’s use of an agile development methodology with deep customer involvement is a key plank in this approach. Sopheon is dependent upon skilled personnel, the loss of whom could have a material impact. While service agreements have been entered into with key executives, retention of key members of staff cannot be guaranteed and departure of such employees could be damaging in the short term. In addition, the competition for qualified employees continues to be difficult and retaining key employees has remained challenging. As a relatively small business, Sopheon is more exposed to this risk than some of its larger competitors. Sopheon management checks staff remuneration against recognized benchmarks and other industry sources and seeks to maintain pay at competitive levels appropriate to its business. Sopheon will require relationships with partners who are able to market and implement its products. Historically, Sopheon has devoted substantial resources to the direct marketing of its products, and its strategy to enter into strategic alliances and other collaborative relationships to widen the customer base and create a broad sales and implementation channel for its products is not yet mature. The successful implementation of this strategy is crucial to Sopheon’s prospects and its ability to scale effectively. However, Sopheon cannot be sure that it will select the right partners, or that the partners it does select will devote adequate resources to promoting, selling and becoming familiar with Sopheon's products. Over the years, Sopheon has built up a network of both resellers and consulting partners, however this has yet to mature and the revenues delivered through these relationships remain a relatively modest part of the total. Sopheon could be subject to claims for damages in connection with its products and services. Sopheon may be exposed to claims for damages from customers in the event that there are errors in its software products, should support and maintenance service level agreements fail to meet agreed criteria, or should the security features of its software or hosting services fail. Sopheon has sought to protect itself from such risks through excellent development methodologies and high-quality operating procedures, its contract terms and insurance policies. Sopheon has never had any such claims. GOVERNANCE 27 Auditors All of the current directors have taken all the steps that they ought to have taken to make themselves aware of any information needed by the company’s auditors for the purposes of their audit and to ensure that the auditors are aware of that information. The directors are not aware of any relevant audit information of which the auditors are unaware. A resolution to reappoint BDO LLP as auditors will be put to the members at the Annual General Meeting. Financial Instruments Details of the group’s financial instruments and its policies with regard to financial risk management are given in Note 22 to the financial statements. Brexit The United Kingdom (‘UK’) formally left the European Union (‘EU’) on 31 January 2020. This was followed by a transition period until 31 December 2020, during which trade and border arrangements, citizens’ rights, and jurisdiction on matters such as dispute resolution, remained broadly unchanged, in accordance with the UK-EU Withdrawal Agreement and the EU (Withdrawal Agreement) Act 2020. Shortly before the expiry of the transition period, on 24 December 2020, the UK and the EU agreed upon a comprehensive Trade and Cooperation Agreement, which incorporated a free trade agreement, a partnership for citizens’ security and a horizontal agreement on governance. The directors currently deem that the effects of the UK’s withdrawal from the EU and entering into the Trade and Cooperative Agreement with the EU will not have a significant impact on the group and company’s operations, due to the global geographical footprint of the business and the nature of its operations. However, the directors and management continue to monitor the situation to manage the risk of the return of volatility in the global financial markets and impact on global economic performance. COVID-19 The directors have continued to monitor and respond to the effects of the global COVID-19 pandemic on the group and took rapid steps to ensure there was no material impact on the company’s operations and working capital. In particular, in March of last year the board implemented an immediate work from home policy and travel restrictions, supported by well-defined virtual working practices, as well as assuring continuity of business operations and cloud services through co-location and Azure based infrastructure. This all went smoothly, and the group continues to operate virtually today. Future working practices after the pandemic has receded are expected to include a blend of home and office working. Some limited rationalization of office space has already been undertaken as leases permit, but we do not currently anticipate a major reduction in the near future. Going Concern The board believes that the business is able to navigate through the continuing impact of the pandemic due to the strength of its customer proposition, its statement of financial position and the net cash position of the group. As further detailed in Note 2 to the financial statement, the group going concern assessment is based on forecasts and projections of anticipated trading performance. The assumptions applied are subjective and management applies judgement in estimating the probability, timing and value of underlying cash flows. The directors confirm that they have a reasonable expectation that the group will have adequate resources to continue in operational existence for the next 12 months from approval of these financial statements and accordingly these financial statements are prepared on a going concern basis, with no material uncertainty over going concern. Greenhouse Gas Emissions The 2018 Regulations introduced requirements under Part 15 of the Companies Act 2006 for an enhanced group of companies, which are defined as large by the Companies Act 2006, to disclose their annual energy use and greenhouse gas emissions, and related information. The group is not currently defined as large, but it has chosen to apply the 2018 Regulations. Sopheon plc itself consumes less than 40MWh and therefore is a low energy user, which negates the need to make detailed disclosures of its energy and carbon information. Furthermore and taking account of this, it has applied the option permitted by the 2018 Regulations to exclude any energy and carbon information relating to its subsidiaries where the subsidiary would not itself be obliged to include if reporting on its own account; this applies to all subsidiaries within the group. 28 GOVERNANCE Substantial Shareholdings The directors are aware of the following persons who as at 23 March 2021 were interested directly or indirectly in 3 percent or more of the company’s issued ordinary shares: Name Rivomore Limited and Myrtledare Corp. B.K. Mence (director) Canaccord Genuity Wealth Group Limited Universal-Investment-GmbH S.A. Silcock (director) Chelverton Asset Management Limited No. of Ordinary Shares % Issued Ordinary Shares 2,074,308 1,895,958 1,023,846 716,102 353,818 590,069 19.9 18.2 9.8 6.9 3.4 5.7 S.A. Silcock’s and B.K. Mence’s interests represent direct beneficial holdings as well as those of their families. Approved by the board on 23 March 2021 and signed on its behalf by: A. Karimjee Director GOVERNANCE 29 S T A T E M E N T O F D I R E C T O R S ’ R E S P O N S I B I L I T I E S I N R E S P E C T O F T H E F I N A N C I A L S T A T E M E N T S The directors are responsible for preparing the annual report and financial statements in accordance with applicable law and regulations. Company law requires the directors to prepare financial statements for each financial year. Under that law the directors have elected to prepare the group and company financial statements in accordance with International Financial Reporting Standards (IFRSs) in conformity with the requirements of the Companies Act 2006. Under company law the directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the group and company and of the profit or loss of the group for that period. The directors are also required to prepare financial statements in accordance with the rules of the London Stock Exchange for companies trading securities on the Alternative Investment Market. In preparing these financial statements, the directors are required to: • select suitable accounting policies and then apply them consistently; • make judgments and accounting estimates that are reasonable and prudent; • state whether they have been prepared in accordance with IFRSs in conformity with the requirements of the Companies Act 2006, subject to any material departures disclosed and explained in the financial statements; and • prepare the financial statements on the going concern basis unless it is inappropriate to presume that the company will continue in business. The directors are responsible for keeping adequate accounting records that are sufficient to show and explain the company’s transactions and disclose with reasonable accuracy at any time the financial position of the company and enable them to ensure that the financial statements comply with the requirements of the Companies Act 2006. They are also responsible for safeguarding the assets of the company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities. Website Publication The directors are responsible for ensuring the annual report is made available on a website. Annual reports are published on the company's website in accordance with legislation in the United Kingdom governing the preparation and dissemination of financial statements, which may vary from legislation in other jurisdictions. The maintenance and integrity of the company's website is the responsibility of the directors. The directors’ responsibility also extends to the ongoing integrity of the annual reports contained therein. 30 INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF SOPHEON PLC I N D E P E N D E N T A U D I T O R S ’ R E P O R T T O T H E M E M B E R S O F S O P H E O N P L C Opinion on the Financial Statements In our opinion: • the financial statements give a true and fair view of the state of the group’s and of the parent company’s affairs as at 31 December 2020 and of the group’s profit for the year then ended; • the group financial statements have been properly prepared in accordance with international accounting standards in conformity with the requirements of the Companies Act 2006; • the parent company financial statements have been properly prepared in accordance with international accounting standards in conformity with the requirements of the Companies Act 2006 and as applied in accordance with the provisions of the Companies Act 2006; and • the financial statements have been prepared in accordance with the requirements of the Companies Act 2006. We have audited the financial statements of Sopheon plc (the ‘parent company’) and its subsidiaries (the ‘group’) for the year ended 31 December 2020 which comprise the consolidated income statement, the consolidated statement of comprehensive income, the consolidated statement of financial position, the company statement of financial position, the consolidated cash flow statement, the company cash flow statement, the consolidated statement of changes in equity, the company statement of changes in equity and notes to the consolidated financial statements, including a summary of significant accounting policies. The financial reporting framework that has been applied in their preparation is applicable law and international accounting standards in conformity with the requirements of the Companies Act 2006 and, as regards the parent company financial statements, as applied in accordance with the provisions of the Companies Act 2006. Basis for Opinion We conducted our audit in accordance with International Standards on Auditing (UK) (ISAs (UK)) and applicable law. Our responsibilities under those standards are further described in the Auditor’s Responsibilities for the Audit of the Financial Statements section of our report. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion. Independence We remain independent of the group and the parent company in accordance with the ethical requirements that are relevant to our audit of the financial statements in the UK, including the FRC’s Ethical Standard as applied to listed entities, and we have fulfilled our other ethical responsibilities in accordance with these requirements. Conclusions Relating to Going Concern In auditing the financial statements, we have concluded that the directors’ use of the going concern basis of accounting in the preparation of the financial statements is appropriate. Our evaluation of the directors’ assessment of the group and the parent company’s ability to continue to adopt the going concern basis of accounting included: • We assessed the appropriateness of the approach and model used by management when performing their going concern assessment, including assessing and challenging the assumptions to determine whether there was adequate support for the assumptions underlying the forecasts and performing sensitivity analysis to consider cash flow changes if the level of revenue decreases or costs increase. • We evaluated the directors’ assessment of the group’s ability to continue as a going concern, including challenging the underlying data and key assumptions, being the level of sales and staff costs, used to make the assessment and comparing these to historical performance, post year-end information and the group's sales pipeline analysis. • Additionally we reviewed and challenged the results of management’s stress testing to assess the reasonableness of economic assumptions in light of the impact of COVID-19 and its effects on the group’s solvency and liquidity position. INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF SOPHEON PLC 31 Based on the work we have performed, we have not identified any material uncertainties relating to events or conditions that, individually or collectively, may cast significant doubt on the group’s and the parent company’s ability to continue as a going concern for a period of at least twelve months from when the financial statements are authorized for issue. Our responsibilities and the responsibilities of the directors with respect to going concern are described in the relevant sections of this report. Overview Coverage1 Key audit matters 94.1% (2019: 86.2%) of group profit before tax 99.8% (2019: 99.8%) of group revenue 98.2% (2019: 95.1%) of group total assets Revenue recognition Intangible assets: Development costs capitalization, amortization and impairment 2020 p p 2019 p p Materiality Group financial statements as a whole $300,000 (2019: $302,000) based on 1% (2019: 1%) of revenue An Overview of the Scope of our Audit Our group audit was scoped by obtaining an understanding of the group and its environment, including the group’s system of internal control, and assessing the risks of material misstatement in the financial statements. We also addressed the risk of management override of internal controls, including assessing whether there was evidence of bias by the directors that may have represented a risk of material misstatement. The group consists of seven entities based in Europe and North America. There are two entities based in the UK, one being the holding company. Further to this there are two trading entities incorporated in Europe based in Germany and the Netherlands, with the remaining three trading entities incorporated in the USA. Based on our assessment of the group, we focused our group audit scope primarily over the significant components, being Sopheon plc, Sopheon UK Limited, Sopheon GmbH and Sopheon Corporation, Minnesota. The significant components in all territories were subject to full scope audits by the group audit team, with desktop reviews performed for the remaining group entities. At the parent entity level we also tested the consolidation process including consolidation adjustments and journals, performed work on all key judgement areas and carried out analytical procedures to confirm our conclusion that there were no significant risks of material misstatement of the aggregated financial information of the remaining components not subject to audit. The figures in the table above demonstrates the coverage from our full scope audit work performed over the significant components within the group for total assets and profit before tax. With regards to revenue, the coverage was obtained through detail testing performed on each component within the group. Key Audit Matters Key audit matters are those matters that, in our professional judgement, were of most significance in our audit of the financial statements of the current period and include the most significant assessed risks of material misstatement (whether or not due to fraud) that we identified, including those which had the greatest effect on: the overall audit strategy, the allocation of resources in the audit, and directing the efforts of the engagement team. These matters were addressed in the context of our audit of the financial statements as a whole, and in forming our opinion thereon, and we do not provide a separate opinion on these matters. 1 These are areas which have been subject to a full scope audit by the group engagement team 32 INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF SOPHEON PLC Key audit matter Revenue Recognition See accounting policy in Note 2 on page 42 and Revenue from contracts with customers in Note 4 on page 48. The group, as a software business, generates revenue primarily from the sale of licenses, related maintenance/support contracts and service income. We considered there to be a significant audit risk arising from inappropriate or incorrect recognition of revenue. The key audit matters related to revenue recognition are as follows: • The risk of material misstatement in relation to revenue recognition concerns the recognition around the year-end, particularly in relation to license sales and consulting and implementation service contracts. License sales require a key code to be provided to the customer, which enables access to the Accolade software. This in turn provides evidence of delivery to the customer in relation to the contractual performance obligation. • There is also a risk that all revenue streams have not been recognized in line with the revenue recognition policy, in particular the unbundling of any contracts in line with their performance obligations, to ensure each revenue stream had a standalone value and that revenue is not recorded inaccurately / recognized prematurely. How the scope of our audit addressed the key audit matter We have performed the following procedures: • We assessed the appropriateness of the revenue recognition policy, in line with the requirements of applicable accounting standards. • In relation to license contract revenue, we obtained support for a sample of binding contracts that were entered into and confirmed that the delivery of the license key was before the year-end, and that revenue was therefore recognized in the appropriate period. • For the maintenance, software subscriptions and hosting services we selected a sample of contracts and checked that the revenue recognition was in line with the contractual terms of the agreement with the customer. This being the recognition of revenue over the lifetime of the contract. • We checked that for a sample of consulting and implementation services, that an appropriate methodology had been applied in accounting for accrued and deferred revenue on these contracts and that this was in line with the stage of completion based on the work performed as at year end. • Where a sales contract involves multiple service obligations, we checked the allocation of the transaction price has been performed proportionally based on the standalone selling price for each obligation. Furthermore, we checked that management assigned the selling price to each separate performance obligation is based on the cost of satisfying the performance obligation plus an appropriate margin based on experience of standalone sales. • Cut-off procedures including testing revenue recorded in December 2020 and January 2021, verifying back to underlying agreements, to check revenue is being recognized within the period the service is performed. Key observations: Based on the work performed we consider that revenue has been recognized appropriately and in accordance with the group’s revenue recognition accounting policy. INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF SOPHEON PLC 33 Key audit matter Intangible Assets: Development Costs capitalization, amortization and impairment See accounting policy in Note 2 on page 44 and Intangible Assets in Note 14 on page 55. How the scope of our audit addressed the key audit matter We performed the following procedures in connection with capitalized development costs: • discussions were held with the group’s technology team to understand the group’s processes, procedures and projects in relation to development costs; • checked the accuracy of the contractor and payroll data, on a sample basis, included in the calculations for capitalized costs to supporting documentation including employment contracts and agreements with contractors; • considered the proportion of time allocations for employees and contractor roles, corroborating management’s explanations to supporting evidence; • assessed management’s estimate of the amortization period applied to the asset by considering relevant industry benchmarks and specific knowledge of the client’s product. Additionally considering whether any indicators of impairment exist taking account of any changes in usability of amounts previously capitalized; and • assessed the ability of the asset to generate future economic benefits for the business, which at least exceed its carrying value by assessing the use of the technology platforms in the performance of the group’s obligations to customers. Key observations: Based on the procedures performed, we noted no instances indicating that the accounting for development costs, including the calculation of the related amortization charge and the evaluation of impairment, was inappropriate. The group capitalizes costs in relation to the development of the software provided to its clients, being the Accolade platform as described on page 8. In accordance with the requirements of the applicable accounting standard, management’s policy is to capitalize development expenditure on internally developed software products if the costs can be measured reliably and the resulting asset meets the criteria per the standard. The key audit matters related to this financial statement area is as follows: • Development costs not satisfying the above criteria and expenditure on the research phase of internal projects are not recognized in the income statement as incurred. Capitalized development costs are amortized over the period within which the group expects to benefit from selling the product developed. This is deemed to be four years. • There is a risk that the recognition criteria outlined in the applicable accounting standard is not met and that development costs are incorrectly capitalized. Further, a risk exists that the assets estimated useful life is inappropriate or that assets not available for use have not been impaired as required. 34 INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF SOPHEON PLC Our Application of Materiality We apply the concept of materiality both in planning and performing our audit, and in evaluating the effect of misstatements. We consider materiality to be the magnitude by which misstatements, including omissions, could influence the economic decisions of reasonable users that are taken on the basis of the financial statements. In order to reduce to an appropriately low level the probability that any misstatements exceed materiality, we use a lower materiality level, performance materiality, to determine the extent of testing needed. Importantly, misstatements below these levels will not necessarily be evaluated as immaterial as we also take account of the nature of identified misstatements, and the particular circumstances of their occurrence, when evaluating their effect on the financial statements as a whole. Based on our professional judgement, we determined materiality for the financial statements as a whole and performance materiality as follows: Group financial statements Parent company financial statements 2020 2019 2020 2019 Materiality $300,000 $302,000 $195,000 $196,000 Basis for determining materiality Rationale for the benchmark applied Performance materiality Basis for determining performance materiality Component materiality 1% Revenue 1% Revenue 65% Group Materiality We considered revenue to be the most appropriate benchmark as this is the primary KPI which is used to address the performance of the group by the board and an important performance- based metric to the users of the financial statements. Materiality for the parent company was set at 65%of group materiality paying due consideration to aggregation risk in relation to group materiality. $210,000 $211,000 $136,500 $137,000 Performance materiality was set at 70% due to the facts that there are multiple components within the group. Additionally, there are a select number of areas included in the accounts which are subject to estimates. Performance materiality was set at 70% due to the fact there are a select number of areas included in the accounts which are subject to estimates. We set materiality for each component of the group based on a percentage of between 60 percent and 75 percent of group materiality dependent on the size of the component. Component materiality ranged from $180,000 to $225,000. In the audit of each component, we further applied performance materiality levels of 70 percent of the component materiality to our testing to ensure that the risk of errors exceeding component materiality was appropriately mitigated. Reporting threshold We agreed with the Audit Committee that we would report to them all individual audit differences in excess of $12,000 (2019: $12,000). We also agreed to report differences below this threshold that, in our view, warranted reporting on qualitative grounds. Other Information The directors are responsible for the other information. The other information comprises the information included in the annual report other than the financial statements and our auditor’s report thereon. Our opinion on the financial statements does not cover the other information and, except to the extent otherwise explicitly stated in our report, we do not express any form of assurance conclusion thereon. Our responsibility is to read the other information and, in doing so, consider whether the other information is materially inconsistent with the financial statements or our knowledge INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF SOPHEON PLC 35 obtained in the course of the audit, or otherwise appears to be materially misstated. If we identify such material inconsistencies or apparent material misstatements, we are required to determine whether this gives rise to a material misstatement in the financial statements themselves. If, based on the work we have performed, we conclude that there is a material misstatement of this other information, we are required to report that fact. We have nothing to report in this regard. Other Companies Act 2006 Reporting Based on the responsibilities described below and our work performed during the course of the audit, we are required by the Companies Act 2006 and ISAs (UK) to report on certain opinions and matters as described below. Strategic Report and Directors’ Report Matters on which we are required to report by exception In our opinion, based on the work undertaken in the course of the audit: • the information given in the Strategic Report and the Directors’ Report for the financial year for which the financial statements are prepared is consistent with the financial statements; and • the Strategic Report and the Directors’ Report have been prepared in accordance with applicable legal requirements. In the light of the knowledge and understanding of the group and parent company and its environment obtained in the course of the audit, we have not identified material misstatements in the Strategic Report or the Directors’ Report. We have nothing to report in respect of the following matters in relation to which the Companies Act 2006 requires us to report to you if, in our opinion: • adequate accounting records have not been kept by the parent company, or returns adequate for our audit have not been received from branches not visited by us; or • the parent company financial statements are not in agreement with the accounting records and returns; or • certain disclosures of directors’ remuneration specified by law are not made; or • we have not received all the information and explanations we require for our audit. Responsibilities of Directors As explained more fully in the Statement of Directors’ Responsibilities set out on page 29, the directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view, and for such internal control as the directors determine is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error. In preparing the financial statements, the directors are responsible for assessing the group’s and the parent company’s ability to continue as a going concern, disclosing, as applicable, matters related to going concern and using the going concern basis of accounting unless the directors either intend to liquidate the group or the parent company or to cease operations, or have no realistic alternative but to do so. Auditor’s Responsibilities for the Audit of the Financial Statements Our objectives are to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditor’s report that includes our opinion. Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with ISAs (UK) will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of these financial statements. 36 INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF SOPHEON PLC Extent to which the audit was capable of detecting irregularities, including fraud Irregularities, including fraud, are instances of non-compliance with laws and regulations. We design procedures in line with our responsibilities, outlined above, to detect material misstatements in respect of irregularities, including fraud. The extent to which our procedures are capable of detecting irregularities, including fraud is detailed below: • We obtained an understanding of the legal and regulatory frameworks that are applicable to the group and determined that the most significant frameworks which are directly relevant to specific assertions in the financial statements are those that relate to the reporting framework, rules of the London Stock Exchange for companies trading securities on AIM, the Companies Act 2006 and relevant tax compliance regulations; • We understood how the group is complying with those frameworks by making enquiries of management, those responsible for legal and compliance procedures and the Company Secretary. We corroborated our enquiries through our review of board minutes and papers provided to the Audit Committee; • We assessed the susceptibility of the group’s financial statements to material misstatement, including how fraud might occur, by meeting with management from across the group to understand where they considered there was a susceptibility to fraud; • Our audit planning identified fraud risks in relation to management override and inappropriate or incorrect recognition of revenue (revenue recognition assessed as a Key Audit Matter above). We obtained and understanding of the processes and controls that the group has established to address risks identified, or that otherwise prevent, deter and detect fraud; and how management monitors that processes and controls; and • With regards to the fraud risk in management override, our procedures included journal transaction testing, with a focus on large or unusual transactions based on our knowledge of the business. We also performed an assessment on the appropriateness of key judgements and estimates, for example the capitalization of development costs (the risks associated with the capitalization of development costs has been assessed as a Key Audit Matter above), which are subject to managements’ judgement and estimation, and could be subject to potential bias. • We also communicated relevant identified laws and regulations and potential fraud risks to all engagement team members and remained alert to any indications of fraud or non-compliance with laws and regulations throughout the audit. Our audit procedures were designed to respond to risks of material misstatement in the financial statements, recognizing that the risk of not detecting a material misstatement due to fraud is higher than the risk of not detecting one resulting from error, as fraud may involve deliberate concealment by, for example, forgery, misrepresentations or through collusion. There are inherent limitations in the audit procedures performed and the further removed non-compliance with laws and regulations is from the events and transactions reflected in the financial statements, the less likely we are to become aware of it. A further description of our responsibilities is available on the Financial Reporting Council’s website at: www.frc.org.uk/ auditorsresponsibilities. This description forms part of our auditor’s report. Use of Our Report This report is made solely to the parent company’s members, as a body, in accordance with Chapter 3 of Part 16 of the Companies Act 2006. Our audit work has been undertaken so that we might state to the parent company’s members those matters we are required to state to them in an auditor’s report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the parent company and the parent company’s members as a body, for our audit work, for this report, or for the opinions we have formed. Iain Henderson (Senior Statutory Auditor) For and on behalf of BDO LLP, Statutory Auditor London United Kingdom 23 March 2021 BDO LLP is a limited liability partnership registered in England and Wales (with registered number OC305127). FINANCIAL INFORMATION 37 C O N S O L I D A T E D I N C O M E S T A T E M E N T F O R T H E Y E A R E N D E D 3 1 D E C E M B E R 2 0 2 0 Revenue Cost of sales Gross profit Sales and marketing expense Research and development expense Administrative expense Operating profit Finance income Finance expense Profit before tax Income tax charge Profit for the year Earnings per share Basic (US cents) Fully diluted (US cents) Notes 3, 4 2020 $’000 2019 $’000 29,996 (9,057) 30,254 (9,043) 20,939 21,211 (9,092) (5,894) (4,178) (8,806) (5,682) (4,305) 1,775 2,418 8 9 5 25 (93) 166 (127) 1,707 2,457 10 (211) (409) 1,496 2,048 12 12 14.68c 20.16c 14.06c 19.20c C O N S O L I D A T E D S T A T E M E N T O F C O M P R E H E N S I V E I N C O M E F O R T H E Y E A R E N D E D 3 1 D E C E M B E R 2 0 2 0 Profit for the year Other comprehensive income/(expense) Items that may be reclassified to profit or loss: Exchange differences on translation of foreign operations Total comprehensive income for the year 2020 $’000 1,496 2019 $’000 2,048 693 (41) 2,189 2,007 The notes on pages 41 to 68 form part of these financial statements. 38 FINANCIAL INFORMATION C O N S O L I D A T E D A N D C O M P A N Y S T A T E M E N T O F F I N A N C I A L P O S I T I O N A T 3 1 D E C E M B E R 2 0 2 0 Assets Non-current Assets Property, plant and equipment Right-of-use assets Intangible assets Investments in subsidiaries Deferred tax asset Other receivables Group Company Notes 2020 $’000 2019 $’000 2020 $’000 2019 $’000 13 21 14 15 10 16 528 1,027 7,863 - 2,557 19 510 1,553 6,874 - 2,557 123 - - - 8,353 - 16,793 - - - 8,084 - 14,793 Total non-current assets 11,994 11,617 25,146 22,877 Current Assets Trade and other receivables Cash and cash equivalents 17 18 14,566 21,718 13,000 19,433 109 4,547 Total current assets 36,284 32,433 4,656 105 2,636 2,741 Total assets Liabilities Current Liabilities Trade and other payables Lease liabilities Contract liabilities Total current liabilities Non-current Liabilities Lease liabilities Total non-current liabilities Total liabilities Net assets Equity Share capital Capital reserves Translation reserve Retained profits Total equity 48,278 44,050 29,802 25,618 19 21 4 5,077 515 11,985 4,238 643 10,337 17,577 15,218 21 546 546 936 936 396 - - 396 - - 382 - - 382 - - 18,123 16,154 396 382 30,155 27,896 29,406 25,236 23 24 3,133 9,398 702 16,922 3,126 8,942 9 15,819 3,133 9,398 (1,361) 18,236 3,126 8,942 (1,802) 14,970 30,155 27,896 29,406 25,236 As permitted by Section 408 of the Companies Act 2006, the income statement of the parent company is not presented as part of these financial statements. The profit dealt with in the financial statements of the parent company for the year ended 31 December 2020 was $3,659,000 (2019: profit of $8,323,000). Approved by the board and authorized for issue on 23 March 2021. Barry K. Mence Director Arif Karimjee Director The notes on pages 41 to 68 form part of these financial statements. FINANCIAL INFORMATION 39 C O N S O L I D A T E D A N D C O M P A N Y C A S H F L O W S T A T E M E N T S F O R T H E Y E A R E N D E D 3 1 D E C E M B E R 2 0 2 0 Operating Activities Profit for the year Group Company Notes 2020 $’000 2019 $’000 2020 $’000 2019 $’000 1,496 2,048 3,659 8,323 Adjustments for: Finance income Finance costs Depreciation of property, plant and equipment Depreciation of right-of-use assets Amortization of intangible assets Share-based payment expense Income tax charge 8 9 13 21 14 Operating cash flows before movements in working capital Intra-group credits and charges Decrease in provisions against intra-group loans (Increase)/decrease in receivables Increase/(decrease) in payables (25) 93 365 671 2,669 447 211 5,927 - - (1,258) 2,249 (166) 127 364 698 2,342 620 409 6,442 - - 1,071 (141) Net cash generated from/(used in) operating activities Income taxes paid 6,918 (344) 7,372 (318) - 3 - - - 79 - 3,741 (331) (4,344) (4) 13 (925) - - 4 - - - 620 - 8,947 (634) (9,359) (9) (135) (1,190) - Net cash from/(used in) operating activities 6,574 7,054 (925) (1,190) Investing Activities Finance income Purchases of property, plant and equipment Development costs capitalized Advance of loans to group companies Repayment of loans by group companies 8 13 14 25 (367) (3,658) - - 166 (345) (3,010) - - - - - (2,369) 5,412 - - - (1,940) 3,107 Net cash (used in)/generated from investing activities (4,000) (3,189) 3,043 1,167 Financing Activities Issues of shares Repayment of borrowings Repayment of line of credit Lease payments Interest paid Dividends paid 20 20 21 25 52 - - (664) (93) (429) 105 (29) (325) (672) (127) (430) Net cash used in financing activities (1,134) (1,478) 52 - - - (3) (429) (380) Net increase/(decrease) in cash and cash equivalents 1,440 2,387 1,738 105 - - - (4) (430) (329) (352) Cash and cash equivalents at the beginning of the year Effect of foreign exchange rate changes 19,433 845 17,086 (40) 2,636 173 3,076 (88) Cash and cash equivalents at the end of the year 18 21,718 19,433 4,547 2,636 The notes on pages 41 to 68 form part of these financial statements. 40 FINANCIAL INFORMATION C O N S O L I D A T E D A N D C O M P A N Y S T A T E M E N T S O F C H A N G E S I N E Q U I T Y F O R T H E Y E A R E N D E D 3 1 D E C E M B E R 2 0 2 0 Group Share Capital $’000 Capital Translation Reserve $’000 Reserves $’000 At 1 January 2019 Profit for the year Exchange differences on translation of foreign operations Total comprehensive income for the year Issues of shares Recognition of share-based payments Lapse or exercise of share options and warrants Dividends paid in year At 1 January 2020 Profit for the year Exchange differences on translation of foreign operations Total comprehensive income for the year Issues of shares Recognition of share-based payments Lapse or exercise of share options Dividends paid in year 3,118 - 8,277 - - - 8 - - - - - 97 620 (52) - 3,126 - 8,942 - - - 7 - - - - - 45 447 (36) - 50 - (41) (41) - - - - 9 - 693 693 - - - - Retained Profits $’000 14,149 2,048 Total $’000 25,594 2,048 - (41) 2,048 2,007 - - 52 (430) 105 620 - (430) 15,819 1,496 27,896 1,496 - 693 1,496 2,189 - - 36 (429) 52 447 - (429) At 31 December 2020 3,133 9,398 702 16,922 30,155 The translation reserve represents accumulated differences on the translation of assets and liabilities of foreign operations. Full details of capital reserves are set out in Note 24. Company Share Capital $’000 Capital Translation Reserve $’000 Reserve $’000 Retained Profits $’000 At 1 January 2019 Profit and total comprehensive income for the year Issues of shares Recognition of share-based payments Lapse or exercise of share options Dividends paid in year At 1 January 2020 Profit and total comprehensive income for the year Issues of shares Recognition of share-based payments Lapse or exercise of share options Dividends paid in year 3,118 - 8 - - - 3,126 - - 7 - - - 8,277 - 97 620 (52) - 8,942 45 447 (36) - (2,159) 357 - - - - (1,802) 441 - - - - 7,025 8,323 - - 52 (430) 14,970 3,659 - - 36 (429) Total $’000 16,261 8,680 105 620 - (430) 25,236 4,100 52 447 - (429) At 31 December 2020 3,133 9,398 (1,361) 18,236 29,406 The notes on pages 41 to 68 form part of these financial statements. FINANCIAL INFORMATION 41 1 . G E N E R A L I N F O R M AT I O N Sopheon plc ("the company") is a public limited company incorporated in England and Wales. The address of its registered office and principal place of business is set out on page 20. The principal activities of the company and its subsidiaries are described in Note 3. The financial statements have been presented in US Dollars and rounded to the nearest thousand. 2 . S I G N I F I C A N T A C C O U N T I N G P O L I C I E S The financial statements have been prepared in accordance with international accounting standards in conformity with the requirements of the Companies Act 2006, and, as regards the parent company financial statements, as applied in accordance with the provisions of the Companies Act 2006. The principal accounting policies are set out below. The policies have been applied consistently to both years presented. A number of other new standards, amendments and interpretations to existing standards have been adopted by the group, but have not been listed, since they have no material impact on the financial statements. None of the other new standards, amendments and interpretations in issue but not yet effective are expected to have a material effect on the financial statements. While the functional currency of the parent company is Sterling, the group’s financial statements have been presented in US Dollars. The directors believe this better reflects the underlying nature of the business. Approximately two-thirds of the group’s revenue and operating costs are denominated in US Dollars. The exchange rates used for translation of Sterling amounts are 1.3649 US Dollars to British Pounds Sterling as at 31 December 2020 and 1.2940 US Dollars to British Pounds Sterling as the average rate prevailing during 2020. Going Concern The consolidated financial statements have been prepared on a going concern basis. The directors have at the time of approving the financial statements, a reasonable expectation that the company has adequate resources to continue in operational existence for the foreseeable future. The COVID-19 pandemic has so far had limited impact on our business and the board believes that the business is able to navigate through the continued impact of the pandemic due to the strength of its customer proposition and business partnerships, statement of financial position and the net cash position of the group. The current economic conditions continue to create uncertainty, particularly over (a) the level of customer and potential customer engagement; and (b) the level of new sales to new customers. The pandemic has had a widespread impact economically, with potential for causing delays in contract negotiations and/or cancelling of anticipated sales and an uncertainty over cash collection from certain customers. As a consequence, the group has carried out detailed forecast stress testing in order to consider how much forecasts have to reduce by in order to cause cash constraints, and also to consider the likelihood of this scenario occurring. This assessment has also included the group’s actual cash holdings as of the date of the approval of these financial statements and financing alternatives available to the group. Overall, these cash-flow forecasts, which cover a period of at least 12 months from the date of approval of the financial statements, foresee that the group will be able to operate within its existing facilities. Nevertheless, there is a risk that the group will be impacted more than expected by reductions in customer confidence. If sales and settlement of existing debts are not in line with cash flow forecasts, the directors have the ability to identify cost savings if necessary, to help mitigate the impact on cash outflows. Having assessed the principal risks and the other matters discussed in connection with the going concern statement, the directors have a reasonable expectation that the group has adequate resources to continue in operational existence for the foreseeable future. For these reasons, they continue to adopt the going concern basis of accounting in preparing the financial information. Basis of Preparation The consolidated financial statements incorporate the financial statements of the parent company Sopheon plc and the financial statements of the subsidiaries controlled by the group as defined by IFRS 10 Consolidated Financial Statements, as shown in Note 15. Where the company has control over an investee, it is classified as a subsidiary. The company controls an investee if all three of the following elements are present: power over the investee, exposure to variable returns from the investee, and the ability of the investor to use its power to affect those variable returns. The financial statements of all the group companies are prepared using uniform accounting policies. All intra-group transactions, balances, income and expenses are eliminated on consolidation. 42 FINANCIAL INFORMATION Business Combinations The acquisition of subsidiaries is accounted for within the consolidated financial statements using the purchase method. The cost of the acquisition is measured at the aggregate of the fair values at the date of exchange, of assets given, liabilities incurred or assumed, and equity instruments issued by the group in exchange for control of the entity being acquired, together with any costs directly attributable to the business combination. The results of the acquired entities are included in the consolidated income statement from the date on which effective control is obtained. The identifiable assets, liabilities and contingent liabilities of the entity being acquired that meet the conditions for recognition are recognized at their fair values on the date of acquisition. Identifiable intangible assets are capitalized at fair value as at the date of acquisition. The useful lives of these intangible assets are assessed and amortization is charged on a straight-line basis, with the expense taken to the income statement within sales and marketing expense (in respect of customer relationships) and research and development expense (in respect of IPR and technology). Intangible assets are tested for impairment when a trigger event occurs. Useful lives are also examined on an annual basis and adjustments, where applicable, are made on a prospective basis. There have been no business combinations in the period covered by this report. Goodwill Goodwill arising on the acquisition of a subsidiary represents the excess of the cost of acquisition over the group’s interest in the net fair value of the identifiable assets, liabilities and contingent liabilities of the subsidiary at the date of acquisition. Goodwill is initially recognized at cost and is subsequently measured at cost less any accumulated impairment losses. For the purposes of impairment testing, goodwill is allocated to those cash-generating units of the group expected to benefit from the synergies of the business combination. Cash-generating units to which goodwill has been allocated are tested for impairment annually, or more frequently when there is an indication that the unit may be impaired. If the recoverable amount of the cash-generating unit is less than the carrying value of the unit, the impairment loss is allocated firstly to reduce the carrying cost of any goodwill allocated to the unit and then to any other assets of the unit pro rata to the carrying value of each asset of the unit. An impairment loss recognized for goodwill is not reversed in a subsequent period. Revenue Recognition Revenue is measured at the fair value of the consideration received or receivable and represents amounts receivable for goods and services provided in the normal course of business, net of discounts and sales-related taxes. Sales of perpetual software licenses are recognized once no significant obligations remain owing to the customer in connection with such license sale. Such significant obligations could include giving a customer a right to return the software product without any preconditions, or if the group is unable to deliver a material element of the software product by the balance sheet date. Revenues relating to software subscription, maintenance, and hosting agreements are deferred creating a contract liability at the period end, and recognized evenly over the term of the agreements, due to the customer simultaneously receiving and consuming the benefits of the contractual performance obligation over that term. Revenues from implementation and consultancy services are recognized as the services are performed, or in the case of fixed price or milestone-based projects, on a percentage basis as the work is completed and any relevant milestones are met, using latest estimates to determine the expected duration and cost of the project. Based on stage of completion and billing arrangement, either a contract asset or a contract liability is created at the period end. Where the group is acting as a principal, other income includes recoverable costs that have been incurred in the course of business including travel expenses of employees and contractors. Where a sales contract involves multiple service obligations, the allocation of the transaction price is performed proportionally based on the standalone selling price for each obligation. The way in which management assigns the selling price to each separate performance obligation is based on the cost of satisfying the performance obligation plus an appropriate margin based on experience of standalone sales. FINANCIAL INFORMATION 43 Leases The group records its lease obligations in accordance with the principles for the recognition, measurement, presentation and disclosure of leases set out in IFRS 16. The group adopted the standard with effect from 1 January 2019. IFRS 16 requires lessees to recognize a lease liability that reflects the net present value of future lease payments and a corresponding “right-of-use asset” in all lease contracts, although lessees may elect not to recognize lease liabilities and right-of-use assets in respect of short-term leases or leases of assets of low value. The company has elected not to recognize right-of-use assets and lease liabilities in respect of certain leases of office equipment of low value or of short term. The lease payments associated with these leases are recognized as an expense on a straight-line basis over the lease term. At inception of a contract, the group assesses whether a contract is, or contains, a lease based on whether the contract conveys the right to control the use of an identified asset for a period of time in exchange for consideration. The group recognizes a right-of-use asset and a corresponding lease liability at the lease commencement date. The lease liability is initially measured at the present value of the following lease payments: • fixed payments; • variable payments that are based on an index or rate; • the exercise price of any extension or purchase option if reasonably certain to be exercised; and • penalties for terminating the lease, if relevant. The lease payments are discounted using the interest rate implicit in the lease or, if that rate cannot be readily determined, the group’s incremental borrowing rate. The right-of-use assets are initially measured based on the initial amount of the lease liability adjusted for any lease payments made at or before the commencement date, plus any initial direct costs. The right-of-use assets are depreciated over the period of the lease term, or, if earlier, the useful life of the asset, using the straight-line method. The lease term includes periods covered by an option to extend, if the group is reasonably certain to exercise that option. In addition, the right-of-use assets may during the lease term be reduced by impairment losses, if any, or adjusted for certain re-measurements of the lease liability. On 28 May 2020, the IASB issued final amendments to IFRS 16 related to COVID-19 rent concessions for lessees. The amendments modify the requirements of IFRS 16 to permit lessees to not apply modification accounting to certain leases where the contractual terms have been affected due to COVID-19 (such as rent holidays or other rent concessions). The amendments are effective for periods beginning on or after 1 June 2020, with earlier application permitted. The group did not adopt this standard as no such concessions were applicable. Interest on Borrowings All interest on borrowings is recognized in the income statement using the effective interest rate method. Retirement Benefit Costs Payments to defined contribution retirement benefit plans are charged as an expense as they fall due. The group does not operate any defined benefit retirement plans. Foreign Currencies The individual financial statements of each group entity are prepared in the currency of the primary economic environment in which the entity operates (its functional currency). In preparing the financial statements of the individual entities, transactions in currencies other than the entity’s functional currency (foreign currencies) are recorded at rates approximating to the transaction rates. At each balance sheet date, monetary items denominated in foreign currencies are retranslated at the rates prevailing on the balance sheet date. Exchange differences arising on the settlement of monetary items, and on the retranslation of monetary items, are included in the income statement for the period. 44 FINANCIAL INFORMATION For the purpose of presenting consolidated financial statements, the assets and liabilities of the group’s foreign operations are expressed in US Dollars using exchange rates prevailing on the balance sheet date. Income and expense items (including comparatives) are translated at the average exchange rates for the period. Exchange differences arising (including exchange differences on intra-group loans where there is no intention that these should be settled) are classified as equity and transferred to the group’s translation reserve. The same approach is used to translate the financial statements of the company on a stand-alone basis from Sterling to US Dollars. The equity of the company and group is retranslated into the presentational currency at its historical rate. Deferred Tax Deferred tax is recognized on differences between the carrying amounts of assets and liabilities in the financial statements and the corresponding tax bases used in the computation of taxable profit, and is accounted for using the balance sheet liability method. Deferred tax liabilities are generally recognized for all taxable temporary differences. Deferred tax assets are recognized only to the extent that the level and timing of taxable profits can be measured, and it is probable that these will be available against which deductible temporary differences can be utilized. Deferred tax is calculated at tax rates that have been enacted or substantively enacted at the balance sheet date, and that are expected to apply in the period when the liability is settled or the asset realized. Deferred tax is charged or credited to profit or loss, except when it relates to items charged or credited directly to equity, in which case the deferred tax is also dealt with in equity. Property, Plant and Equipment Computer equipment and fixtures and fittings are stated at cost less accumulated depreciation and any accumulated impairment losses. Depreciation is charged so as to write off the costs of assets over their estimated useful lives, using the straight-line method. The gain or loss arising on the disposal or retirement of an item of property, plant and equipment is determined as the difference between the sale proceeds and the carrying amount of the asset and is recognized in the income statement. The following rates are used for the depreciation of property, plant and equipment: Computer equipment Furniture and fittings 20-33 percent on a straight-line basis 20-25 percent on a straight-line basis Investments Investments in subsidiaries within the company balance sheet are stated at cost less impairment. Impairment tests are undertaken whenever events or changes in circumstances indicate that their carrying amount may not be recoverable. Where the carrying value of an investment exceeds its recoverable amount, the investment is written down accordingly. Internally Generated Intangible Assets (Research and Development Expenditure) Development expenditure on internally developed software products is capitalized if it can be demonstrated that: • it is technically feasible to develop the product; • adequate resources are available to complete the development; • there is an intention to complete and sell the product; • the group is able to sell the product; • sales of the product will generate future economic benefits; and • expenditure on the product can be measured reliably. Development costs not satisfying the above criteria and expenditure on the research phase of internal projects are recognized in the income statement as incurred. Capitalization of a particular activity commences after proof of concept, requirements and functional concept stages are complete. Capitalized development costs are amortized over the period over which the group expects to benefit from selling the product developed. This has been estimated to be four years from the date of code-finalization of the applicable software release. The amortization expense in respect of internally generated intangible assets is included in research and development costs. FINANCIAL INFORMATION 45 Impairment of Tangible and Intangible Assets (Excluding Goodwill) At each balance sheet date, the group reviews the carrying amounts of its tangible and intangible assets to determine whether there is any indication that those assets have suffered an impairment loss. If any such indication exists, the recoverable amount of the asset is estimated in order to determine the extent of the impairment loss (if any). Where it is not possible to estimate the recoverable amount of an individual asset, the group estimates the recoverable amount of the cash-generating unit to which the asset belongs. Recoverable amount is the higher of the fair value less costs to sell and value in use. In assessing the value in use, the estimated future cash flows are discounted to their net present value using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset. If the recoverable amount of an asset or cash-generating unit is estimated to be less than its carrying amount, the carrying amount of the asset or cash-generating unit is reduced to its recoverable amount. An impairment loss is recognized immediately in the administrative expenses line item in the income statement. Where an impairment loss subsequently reverses, the carrying value of the asset or cash-generating unit is increased to the revised recoverable amount, but so that the increased carrying amount does not exceed the carrying amount which would have been determined had no impairment loss been recognized in prior years. A reversal of an impairment loss is recognized immediately in profit or loss. Segmental Reporting Operating segments are reported in a manner consistent with the internal reporting provided to the chief operating decision maker of the group, which has been identified as the board of directors. Share-based Payments The group awards share options in the company, being the parent entity, to certain employees. These are treated as equity-settled share-based payments and are measured at fair value (excluding the effect of non-market-based vesting conditions) at the date of grant. This fair value is expensed over the vesting period, based on the group’s estimate of the shares that will eventually vest and adjusted for the effect of non-market-based vesting conditions. Where an option vests in multiple instalments, each instalment is treated as a separate grant with its own vesting period. In the consolidated financial statements, the entire expense is recognized within administrative expenses. At the individual entity level, the expense is transferred to the employing subsidiary and in the company, the benefit transferred is recognized as an increase in investment in subsidiaries, and this increase is then assessed for impairment in accordance with the company’s accounting policy. Financial Instruments 1. Financial Assets Financial assets do not include prepayments. Management determines the classification of financial assets at initial recognition. Amortized Costs These assets arise principally from the provision of goods and services to customers (e.g. trade receivables), but also incorporate other types of financial assets where the objective is to hold these assets in order to collect contractual cash flows and the contractual cash flows are solely payments of principal and interest. They are initially recognized at fair value plus transaction costs that are directly attributable to their acquisition or issue, and are subsequently carried at amortized cost using the effective interest rate method, less provision for impairment. Impairment provisions for current and non-current trade receivables are recognized based on the simplified approach within IFRS 9 using the lifetime expected credit losses. During this process the probability of the non-payment of the trade receivables is assessed. This probability is then multiplied by the amount of the expected loss arising from default to determine the lifetime expected credit loss for the trade receivables. For trade receivables, which are reported net, such provisions are recorded in a separate provision account with the loss being recognized within cost of sales in the consolidated statement of comprehensive income. On confirmation that the trade receivable will not be collectable, the gross carrying value of the asset is written off against the associated provision. 46 FINANCIAL INFORMATION Financial assets held at amortized cost comprise trade and other receivables, contract assets, and cash and cash equivalents in the consolidated statements of financial position. 2. Financial Liabilities The group classifies its financial liabilities in the category of financial liabilities at amortized cost. All financial liabilities are recognized in the statement of financial position when the company becomes a party to the contractual provision or the instrument. Financial liabilities measured at amortized cost include: • Trade payables and other short-dated monetary liabilities, which are initially recognized at fair value and subsequently carried at amortized cost using the effective interest rate method. • Bank and other borrowings, and lease liabilities which are initially recognized at fair value net of any transaction costs directly attributable to the acquisition of the instrument. Such interest-bearing liabilities are subsequently measured at amortized cost using the effective interest rate method, which ensures that the interest expense over the period to repayment is at a constant rate on the balance of the liability carried in the balance sheet. Interest expense in this context includes initial transaction costs and premiums payable on redemption, as well as any interest payable while the liability is outstanding. Unless otherwise indicated, the carrying values of the group’s financial liabilities measured at amortized cost represent a reasonable approximation of their fair values. 3. Share Capital Financial instruments issued by the group are treated as equity only to the extent that they do not meet the definition of a financial liability. The group’s ordinary shares are classified as equity. For the purpose of the disclosures given in Note 23, the group considers its capital to comprise its ordinary share capital, its capital reserves (as set out in Note 24), and its retained earnings. Significant Accounting Estimates and Judgments Management is required to make judgments, estimates and assumptions about the carrying amounts of assets and liabilities that are not readily apparent from other sources. The estimates and associated assumptions are based on historical experience and other factors that are considered to be relevant. Actual results may differ from these estimates, and accordingly they are reviewed on an ongoing basis. Revisions to accounting estimates are recognized in the period in which the estimate is revised if the revision affects only that period, or in the period of the revision and future periods if the revision affects both current and future periods. Depreciation and amortization: Estimates have been adopted for the depreciation and amortization periods relating to property, plant and equipment, externally acquired intangible assets and internally generated intangible assets. These are dealt with in the accounting policy notes set forth above that relate to these areas. Discount rates: Judgement has been used to determine the assumed discount rate of 9 percent used for recoverability assessment relating to intangible assets referred to in Note 14, and the discount rate of 3.75 percent used in respect of the application of IFRS 16 further described in Note 21. The difference in rate selected reflects assessment of the differing risk profile of the underlying assets. Judgement has also been used in determining that no provision is required for credit losses on trade receivables and intercompany receivables, based on the quality of the group’s customers and historical loss experience as further described in Note 17. Multiple service obligations: Where the sales contract involves multiple service obligations the allocation of the transaction price is performed proportionally based on the standalone selling price for each obligation. The way in which management assigns the selling price to each separate performance obligation is based on the cost of satisfying the performance obligation plus an appropriate margin. Deferred taxation: In recognizing deferred tax assets and liabilities management makes judgements about likely future taxable profits. The carrying values of current tax and deferred tax assets and liabilities are disclosed separately in the consolidated statement of financial position. FINANCIAL INFORMATION 47 Capitalization of development costs: Development costs are capitalized based on an assessment on whether they meet the criteria specified in IAS 38 for capitalization. During each reporting period, an assessment is performed by management to determine time spent developing the intangible assets as a proportion of total time spent in the year. This represents an area of judgement and impacts the value of intangible costs capitalized. Percentage completion of revenue: Consultancy service projects can span period ends. The group’s accounting policies for these projects require revenue and costs to be allocated to individual accounting periods and the consequent recognition at period end of contract assets or liabilities for projects still in progress. Management apply judgement in estimating the total revenue and total costs expected on each project. Such estimates are revised as a project progresses to reflect the current status of the project and the latest information available to management. The service teams regularly review contract progress to ensure the latest estimates are appropriate. Further detail on Contract assets and liabilities are reflected per Note 4. 3 . S E G M E N TA L A N A LY S I S All of the group’s revenue in respect of the years ended 31 December 2020 and 2019 was derived from the design, development and marketing of software products with associated implementation and consultancy services, as more particularly described in the Strategic Report. The business is seen as one cash-generating unit and operates as a single operating segment. For management purposes, the group is organized geographically across two principal territories, North America and Europe. Information relating to this geographical split is outlined below. The information in the following table provides analysis by location of operations. Inter-segment revenues are priced on an arm’s length basis. Year ended 31 December 2020 Income Statement External revenues Operating profit before interest and tax Profit before tax* Finance income Finance expense Depreciation and amortization Adjusted EBITDA* Balance Sheet Fixed asset additions Capitalization of internally generated development costs Total assets Total liabilities Year ended 31 December 2019 Income Statement External revenues Operating profit before interest and tax Profit before tax* Finance income Finance expense Depreciation and amortization Adjusted EBITDA* Balance Sheet Fixed asset additions Capitalization of internally generated development costs Total assets Total liabilities North America $’000 Europe $’000 Total $’000 18,938 2,259 2,238 45 (66) (3,306) 5,933 11,058 (484) (531) (20) (27) (399) (6) 29,996 1,775 1,707 25 (93) (3,705) 5,927 277 3,658 29,408 (11,672) 90 - 18,870 (6,451) 367 3,658 48,278 (18,123) North America $’000 20,690 3,887 3,962 166 (91) (2,991) 6,879 Europe $’000 Total $’000 9,564 (1,469) (1,505) - (36) (413) (437) 30,254 2,418 2,457 166 (127) (3,404) 6,442 243 3,010 29,052 (11,123) 102 - 14,998 (5,031) 345 3,010 44,050 (16,154) 48 FINANCIAL INFORMATION *Reconciliation from profit before tax to adjusted EBITDA is detailed in Note 5. Revenues attributable to customers in North America in 2020 amounted to $18,332,000 (2019: $20,003,000). Revenue attributable to customers in the rest of the world amounted to $11,664,000 (2019: $10,245,000) of which $9,500,000 (2019: $8,762,000) was attributable to customers in Europe. No individual customer accounted for more than 10 percent of the group’s revenues in 2020 or 2019. 4 . R E V E N U E F R O M C O N T R A C T S W I T H C U S T O M E R S Disaggregation of Revenue Revenue attributable to each of the group’s primary geographic markets is analyzed in Note 3 above. The following table provides further disaggregation of revenue in accordance with the IFRS 15 requirement to depict how the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic factors. Perpetual software licenses Consulting and implementation services Maintenance, software subscriptions and hosting 2020 $’000 3,021 9,680 17,295 2019 $’000 5,401 9,355 15,498 29,996 30,254 Perpetual licenses are recognized at a point in time. Consulting and implementation services, and maintenance, subscription and hosting services, are recognized over time. Further details of the revenue recognition approaches are described in Note 2. Contract Balances Contract assets and contract liabilities arise because cumulative billings to customers at each balance sheet date do not necessarily equal the amount of revenue recognized on the contracts. Contract assets, historically described as accrued income, represent performance obligations that have been satisfied but not yet billed at the end of the reporting period. Contract liabilities, historically described as deferred revenue, represent transaction price allocated to the performance obligations that are unsatisfied (or partially unsatisfied) as of the end of the reporting period. The group does not have any instances where payment is received in advance for multi-year contracts, all invoicing is annual as per contract terms. Contract Assets 2019 $’000 2020 $’000 Contract Liabilities 2019 2020 $’000 $’000 At 1 January Transfers in the period from contract assets to trade receivables Revenue recognized ahead of cash (or rights to cash) Transfers in the period from contract liabilities to revenue Cash (or rights to cash) received in advance of revenue recognition 397 (397) 430 - - 1,109 (1,109) 397 - - 10,337 - - (10,337) 11,985 9,035 - - (9,035) 10,337 At 31 December 430 397 11,985 10,337 FINANCIAL INFORMATION 49 5 . P R O F I T F O R T H E Y E A R The profit for the year has been arrived at after charging/(crediting): Net foreign exchange (gains)/losses Research and development costs (excluding amortization) Amortization of intangible assets Depreciation of property, plant and equipment Depreciation of right-of-use assets Employee share-based payments 2020 $’000 (110) 3,225 2,669 365 671 447 2019 $’000 100 3,340 2,342 364 698 620 Net foreign exchange gains or losses arise on the translation of cash and trade balances held in currencies other than the functional currency of the entity concerned and are accordingly included in administration expense. Adjusted EBITDA, which is a company specific measure, defined as earnings before interest, tax, depreciation, amortization, and employee share-based payment charges, is considered to be an important profit measure, since it is widely used by the investment community. See page 18 for further information on the use of this measure. It is calculated as follows: Profit for the year before tax Interest payable Interest receivable Amortization of intangible assets Depreciation of property, plant and equipment Depreciation of right-of-use assets Employee share-based payments Adjusted EBITDA 6 . A U D I T O R S ’ R E M U N E R AT I O N During the year the group obtained the following services from its auditors and associated firms. Audit of the financial statements of the group Audit of the financial statements of the UK subsidiary Review of interim financial information Tax compliance services 2020 $’000 2019 $’000 1,707 2,457 93 (25) 2,669 365 671 447 127 (166) 2,342 364 698 620 5,927 6,442 2020 $’000 2019 $’000 68 5 19 28 72 5 17 31 50 FINANCIAL INFORMATION 7 . S TA F F C O S T S Wages and salaries Social security costs Pension contributions Employee benefits expense 2020 $’000 19,208 1,610 483 1,060 2019 $’000 17,959 1,529 442 1,049 22,361 20,979 Included within the above are staff costs capitalized as development expenditure amounting to $3,658,000 (2019: $3,010,000). Included within wages and salaries are bonus and sales commission costs amounting to $2,203,000 (2019: $2,108,000). The average monthly number of employees during the year was made up as follows: Development and operations Sales and management 2020 Number 2019 Number 112 53 165 107 53 160 The above staff costs and the numbers of employees during the year include the executive directors. The remuneration of all directors was as follows: Fees and emoluments Pension contributions 2020 $’000 1,025 25 1,050 2019 $’000 961 22 983 During the year 7,500 share options (2019: Nil) were exercised by directors. Pension contributions are to personal defined contribution schemes and have been made for three directors (2019: three) who served during the year. Full details of directors’ remuneration, including share option exercises, are disclosed in the Board Committee Reports on page 21. Staff costs in the parent company amounted to $600,000 including bonuses (2019: $513,000). The average monthly number of staff of the parent company during the year included one full time and two part time (2019: one and two). 8 . F I N A N C E I N C O M E Income on financial assets measured at amortized cost Interest income on bank deposits Negative interest income on certain Euro bank balances 2020 $’000 2019 $’000 45 (20) 25 166 - 166 FINANCIAL INFORMATION 51 9 . F I N A N C E E X P E N S E Interest expense on financial liabilities measured at amortized cost Interest on borrowings Interest on lease liabilities 1 0 . I N C O M E TA X C R E D I T Income tax charge for the year – current tax The charge for the year can be reconciled to the accounting profit as follows: Profit before tax Tax charge at the UK corporation tax rate of 19% (2019: 19%) Adjustment for differing rates of corporate taxation in overseas jurisdictions Tax effect of expenses that are not deductible in determining taxable profits Temporary differences arising from the capitalization and transfer of development investments Utilization of prior year losses 2020 $’000 2019 $’000 (34) (59) (93) (60) (67) (127) 2020 $’000 2019 $’000 (211) (409) 2020 $’000 1,707 (324) (67) (156) 188 148 2019 $’000 2,457 (467) (139) (192) 127 262 Total income tax expense for the year (211) (409) The current tax expense represents German corporation tax payable by Sopheon GmbH and US state taxes payable by the group’s US subsidiaries. US corporate Alternative Minimum Tax (AMT) has been repealed in respect of tax years beginning on or after 1 January 2018. AMT paid by US corporations in respect of periods prior to that date is refundable over a four-year period to December 2021. Of the $208,000 of refundable AMT credited in 2018, Sopheon’s US subsidiaries received $104,000 in 2019 and $104,000 in 2020. There is no tax arising on other comprehensive income. 52 FINANCIAL INFORMATION Deferred Tax Asset The group has a potential deferred tax asset arising from its unrelieved trading losses, which has been partially recognized, but the remainder of which has not been recognized owing to uncertainty as to the level and timing of taxable profits in the future. The deferred tax asset which has been recognized in the financial statements is as follows: Deferred tax asset at 1 January Amount recognized during the year Deferred tax asset at 31 December The unrecognized deferred tax asset is made up as follows: Shortfall of tax depreciation compared to book depreciation Effect of timing differences arising from capitalization of internally generated development costs Unrelieved trading losses Unrecognized deferred tax asset at 31 December 2020 $’000 2,557 - 2,557 2019 $’000 2,557 - 2,557 2020 $’000 156 2019 $’000 156 (1,420) 8,539 (1,212) 8,027 7,275 6,971 At 31 December 2020, tax losses estimated at $54m (2019: $52m) were available to carry forward by the Sopheon group, arising from historical losses incurred. These losses have given rise to a deferred tax asset of $2.6m (2019: $2.6m) and a further potential deferred tax asset of $8.5m (2019: $8.0m), based on the tax rates currently applicable in the relevant tax jurisdictions. Of these tax losses, an aggregate amount of $8.8m, representing $1.8m of the potential deferred tax asset (2019: $8.8m and $1.9m respectively) represents pre-acquisition tax losses of Alignent Software, Inc. The future utilization of these losses may be restricted under Section 382 of the US Internal Revenue Code, whereby the ability to utilize net operating losses arising prior to a change of ownership is limited to a percentage of the entity value of the corporation at the date of change of ownership. 11 . P R O F I T D E A LT W I T H I N T H E F I N A N C I A L S TAT E M E N T S O F T H E P A R E N T C O M PA N Y The profit dealt with in the financial statements of the parent company for the year ended 31 December 2020 was $3,659,000 (2019: profit of $8,323,000). The parent company’s result includes a partial release of provisions against long-term loans due to the parent company from subsidiaries of $4,344,000 (2019: $9,359,000). Further details of parent company loans to subsidiaries appear in Note 16. Advantage has been taken of Section 408 of the Companies Act 2006 not to present an income statement for the parent company. 1 2 . E A R N I N G S P E R S H A R E Basic earnings per share Profit after tax Weighted average number of ordinary shares for the purpose of basic earnings per share Earnings per share Diluted earnings per share Profit after tax Diluted profit after tax Weighted average number of ordinary shares for the purpose of basic earnings per share Diluted earnings per share FINANCIAL INFORMATION 53 2020 $’000 2019 $’000 1,496 2,048 ’000s ’000s 10,193 10,156 14.68c 20.16c ’000s ’000s 1,496 1,396 2,048 2,048 ’000s ’000s 10,637 10,667 14.06c 19.20c For the purpose of calculating the diluted earnings per ordinary share in 2020 and 2019, in respect of the outstanding 942,294 share options (details of which are set out in Note 28), the treasury stock method is used. This assumes that options to subscribe for Sopheon shares at prices below the average share price prevailing during the year are exercised on 1st January of the relevant year (or, if later, on the date of grant) and that the proceeds from exercise of such options are reinvested in treasury shares at the average price prevailing during the year. 54 FINANCIAL INFORMATION 1 3 . P R O P E R T Y, P L A N T A N D E Q U I P M E N T Group Cost At 1 January 2019 Additions Exchange differences At 1 January 2020 Additions Exchange differences At 31 December 2020 Accumulated Depreciation At 1 January 2019 Depreciation charge for the year Exchange differences At 1 January 2020 Depreciation charge for the year Exchange differences At 31 December 2020 Carrying Amount At 31 December 2020 At 31 December 2019 Company The company has no property, plant and equipment. Computer Equipment $’000 Furniture & Fittings $’000 2,706 333 (4) 3,035 356 30 3,421 2,335 304 (2) 2,637 309 13 2,959 462 398 577 12 (3) 586 11 10 607 416 60 (2) 474 56 11 541 66 112 Total $’000 3,283 345 (7) 3,621 367 40 4,028 2,751 364 (4) 3,111 365 24 3,500 528 510 1 4 . I N TA N G I B L E A S S E T S Cost At 1 January 2019 Additions (internally generated) At 1 January 2020 Additions (internally generated) At 31 December 2020 Amortization At 1 January 2019 Charge for the year At 1 January 2020 Charge for the year At 31 December 2020 Carrying Amount At 31 December 2020 At 31 December 2019 FINANCIAL INFORMATION 55 Development Costs (Internally Generated) $’000 Goodwill $’000 Total $’000 26,780 3,010 29,790 3,658 1,022 - 1,022 - 27,802 3,010 30,812 3,658 33,448 1,022 34,470 21,596 2,342 23,938 2,669 26,607 - - - - - 21,596 2,342 23,938 2,669 26,607 6,841 1,022 7,863 5,852 1,022 6,874 The amortization period for the internally generated development costs relating to the group’s software products is four years. Goodwill that arose in prior periods is not amortized. The residual goodwill arising on the acquisition of Alignent is attributable to the enhanced market position of the group, due to the completeness of the solution that Sopheon can offer the market. The recoverable amount of the goodwill can be underpinned on a value in use basis by the expected performance of the group, which is seen as a single cash-generating unit. The valuation used for this purpose is based on cash flow projections for the next five years, and thereafter for an indefinite period at a growth assumption of 3 percent (2019: 3 percent). The discount rate used was 9 percent (2019: 9 percent). Sensitivity analysis has been performed on these projections, specifically changes in assumed annual revenue growth, profit margin growth and terminal growth rate. This demonstrates significant valuation headroom above the carrying value of goodwill. Company The company has no intangible assets. 1 5 . I N V E S T M E N T I N S U B S I D I A R I E S At cost less amounts provided At 31 December 2019 Exchange difference At 31 December 2020 Company $’000 8,084 269 8,353 56 FINANCIAL INFORMATION Details of the company’s subsidiaries at 31 December 2020 are set out below. Companies marked with an asterisk (*) are held via Sopheon UK Ltd. The common stock of Alignent Software, Inc. and Sopheon Corporation, Minnesota, USA are held by Sopheon Corporation, Delaware, USA. The share capital of Sopheon Corporation, Delaware, USA and Sopheon GmbH are held by Sopheon NV. Name of Company Place of Incorporation Nature of Ownership Proportion of Voting Rights Held Nature of Business Sopheon Corporation 3001 Metro Drive Bloomington, MN 55425, USA Sopheon Corporation 6870 W 52nd Avenue Arvada, CO 80002, USA Alignent Software, Inc. 3001 Metro Drive Bloomington, MN 55425, USA Sopheon NV Kantoorgebouw Officia 1 De Boelelaan 7, 1083 HJ Amsterdam, The Netherlands Sopheon UK Ltd Dorna House One, 50 Guildford Road West End GU24 9PW, UK Sopheon GmbH Lise-Meitner-Str. 10, D-64293 Darmstadt, Germany Applied Network Technology Ltd* Dorna House One, 50 Guildford Road West End GU24 9PW, UK 1 6 . O T H E R R E C E I VA B L E S Other receivables Tax refundable in future years Amounts due from subsidiary undertakings (net of provisions) Common Stock 100% Software sales and services Common Stock 100% Software development and sales Common Stock 100% Software sales and services Ordinary Shares 100% Software sales and services Ordinary Shares 100% Software sales and services Ordinary Shares 100% Software sales and services Ordinary Shares 100% Employee Share Ownership Trust Group Company 2020 $’000 19 - - 19 2019 $’000 19 104 2020 $’000 - - 2019 $’000 - - - 16,793 14,793 123 16,793 14,793 The other receivable represents a deposit paid in respect of a property leased by the group. The tax refundable represents US Alternative Minimum Tax refunded during the year, further details of which appear in Note 10. A partial credit loss provision of $19,491,000 (2019: $33,622,000) has been made against amounts totaling $36,284,000 (2019: $48,415,000) owed to the parent company by subsidiary undertakings, which are due after more than one year and are subordinated to the claims of all other creditors. FINANCIAL INFORMATION 57 The expected credit loss provision against amounts due to the parent company from subsidiary undertakings has been assessed using a Stage 3 approach as detailed below. At 1 January Net repayments Net management charges Partial release of provision Previously provided loans to dormant subsidiary undertakings written off Exchange adjustments At 31 December 1 7 . T R A D E A N D O T H E R R E C E I VA B L E S 2020 $’000 33,622 (3,043) 699 (2,000) (11,209) 1,422 2019 $’000 41,315 (1,167) 634 (9,000) - 1,840 19,491 33,622 Trade receivables Other receivables Total receivables Prepayments Contract assets Group Company 2020 $’000 13,163 13 13,176 960 430 2019 $’000 11,722 55 11,777 826 397 2020 $’000 2019 $’000 - 82 82 27 - - 79 79 26 - 14,566 13,000 109 105 The carrying value of trade and other receivables classified at amortized cost approximates fair value. The group has adopted the IFRS 9 simplified approach to measuring expected credit losses using a lifetime expected credit loss provision for trade receivables and contract assets. As further detailed in Note 22, the group’s customers almost exclusively comprise major international corporations of good credit standing mostly based in the USA and the EU, and the group’s historical credit loss experience is negligible. Accordingly, the trade receivables and contract assets are assessed as homogenous for the purposes of grouping for credit risk, and expected loss rate is expected to be nil leading to no provision for impairment being recorded. 1 8 . C A S H A N D C A S H E Q U I VA L E N T S Cash at bank Short-term bank deposits Group Company 2020 $’000 9,708 12,010 2019 $’000 9,163 10,270 2020 $’000 4,547 - 21,718 19,433 4,547 2019 $’000 2,636 - 2,636 Cash and cash equivalents comprise cash held by the group, bank current accounts and short-term bank deposit accounts with maturities of three months or less and bearing interest at variable rates. The carrying amount of these assets represents a reasonable approximation to their fair value. Included in cash at bank of the group is an amount of $69,000 (2019: $66,000) held by the group’s employee share ownership trust. 58 FINANCIAL INFORMATION 1 9 . T R A D E A N D O T H E R PAYA B L E S Trade payables Other payables Tax and social security costs Accruals Group Company 2020 $’000 1,013 104 1,089 2,871 2019 $’000 821 124 597 2,696 5,077 4,238 2020 $’000 2019 $’000 43 134 - 219 396 44 132 - 206 382 Trade payables principally comprise amounts outstanding for trade purchases and ongoing costs. The directors consider that the carrying amounts of trade and other payables represent a reasonable approximation to their fair values. 2 0 . B O R R O W I N G S The group had no borrowings at 31 December 2020 or at 31 December 2019. The group’s line of credit facility and all loan notes due to Silicon Valley Bank were fully repaid during 2019. 2 1 . L E A S E S Lease liabilities represent rental payments by the group for leased office properties and leased vehicles. Right-of-Use Assets At 1 January 2019 Additions in year Amortization Exchange differences At 1 January 2020 Additions and lease extensions in year Amortization Lease reassessments Exchange differences Leased Buildings $’000 Leased Vehicles $’000 1,911 - (590) (13) 1,308 79 (571) (58) 36 187 170 (108) (4) 245 68 (100) 4 16 Total $’000 2,098 170 (698) (17) 1,553 147 (671) (54) 52 At 31 December 2020 794 233 1,027 FINANCIAL INFORMATION 59 Leased Buildings $’000 Leased Vehicles $’000 1,911 - 61 (627) (13) 1,332 79 53 (618) (57) 36 187 170 6 (112) (4) 247 68 6 (105) 4 16 Total $’000 2,098 170 67 (739) (17) 1,579 147 59 (723) (53) 52 825 236 1,061 Carrying Amount $’000 Contractual Cash-Flow $’000 Less than One Year $’000 One to Two Years $’000 Two to Five Years $’000 825 236 862 251 1,061 1,113 474 75 549 271 57 328 117 119 236 Carrying Amount $’000 Contractual Cash-Flow $’000 Less than One Year $’000 One to Two Years $’000 Two to Five Years $’000 1,332 247 1,579 1,406 264 1,670 487 103 690 426 54 480 393 107 500 Lease Liabilities At 1 January 2019 Additions in year Interest expense Lease payments Exchange differences At 1 January 2020 Additions in year Interest expense Lease payments Lease reassessments Exchange differences At 31 December 2020 The maturity of the lease liabilities is as follows: At 31 December 2020 Leased buildings Leased vehicles Total At 31 December 2019 Leased buildings Leased vehicles Total Leased Buildings Buildings are leased for office space under leases which typically run for a period of 1-5 years and lease payments are at fixed amounts. Some leases for office buildings include extension options exercisable up to one year before the end of the cancellable lease term. Leased Vehicles The group leases vehicles for qualifying employees with a standard lease term of 4 years with fixed lease payments. The group does not purchase or guarantee the future value of leased vehicles. Leased Equipment The group has a small number of leases of office equipment. The group considers these leases to be of low value or short term in nature and therefore no right-of-use assets or lease liabilities are recognized for these leases. 60 FINANCIAL INFORMATION 2 2 . F I N A N C I A L I N S T R U M E N T S Categories of Financial Assets and Liabilities The following table sets out the categories of financial instruments held by the group. All of the group’s financial assets are in the category of financial assets measured at amortized cost, and all of its financial liabilities are in the category of financial liabilities measured at amortized cost. 1. Financial Assets Current Financial Assets Trade receivables Other receivables Amounts due from subsidiary companies Contract assets Cash and cash equivalents Group Company Notes 2020 $’000 2019 $’000 2020 $’000 2019 $’000 17 17 16 17 18 13,163 13 - 430 21,718 11,722 55 - 397 19,433 - 82 14,793 - 4,547 - 79 14,793 - 2,636 35,324 31,607 19,422 17,508 Non-current Financial Assets Other receivables 16 19 123 - - The group does not have any financial assets in any other categories. 2. Financial Liabilities Current Financial Liabilities Trade payables Other payables Accruals Loans and borrowings Lease liabilities Non-current Financial Liabilities Loans and borrowings Lease liabilities Group Company Notes 2020 $’000 2019 $’000 2020 $’000 2019 $’000 19 19 19 20 21 20 21 1,013 104 2,871 - 515 821 124 2,696 - 643 4,503 4,284 - 546 546 - 936 936 43 134 219 - - 396 - - - 44 132 206 - - 382 - - - 5,049 5,220 396 382 FINANCIAL INFORMATION 61 Financial Instrument Risk Exposure and Management The group is exposed to risks that arise from its use of financial instruments. This note describes the group’s objectives, policies and processes for managing those risks and the methods used to measure them. There have been no changes in the group’s exposure to financial instrument risks, its objectives, policies and processes for managing those risks or the methods used to measure them from previous periods, unless otherwise disclosed in this note. Principal Financial Instruments The principal financial instruments used by the group, from which financial instrument risk arises, are as follows: • Trade and other receivables • Cash and cash equivalents • Trade and other payables • Loans and borrowings • Lease liabilities General Objectives, Policies and Processes The board has overall responsibility for the determination of the group’s risk management objectives and policies and, while retaining ultimate responsibility for them, it has delegated the authority for designing and operating processes that ensure the effective implementation of the objectives and policies to the group’s finance function. The board receives quarterly reports from the group finance director through which it reviews the effectiveness of the processes put in place and the appropriateness of the objectives and policies it sets. The group’s risk management procedures are also reviewed periodically by the audit committee. The overall objective of the board is to set policies that seek to reduce risk as far as possible without unduly affecting the group’s competitiveness and flexibility. Further details regarding these policies are set out below: a) Credit Risk Credit risk arises principally from the group’s trade receivables, other receivables and contract assets. It is the risk that the counterparty fails to discharge its obligations in respect of the instrument. The group’s software is principally marketed at major international corporations of good credit standing, and the group’s historical bad debt experience is negligible. Due to the potentially large size of certain individual sales, in a particular year one customer can account for a substantial proportion of revenues recorded. However, such concentrations rarely persist for multiple years and therefore the directors do not believe that the group is systematically exposed to credit risk concentration in respect of particular customers. In 2020 no individual customer accounted for more than 10 percent of group revenues (2019: None). Credit risk also arises from cash and cash equivalents and deposits with banks and financial institutions. At the year- end the group was holding a proportion of its deposits and bank balances with each of Lloyds Banking Group plc, Rabobank Amsterdam, and Silicon Valley Bank. A feature of recent years is that major corporations have slowed down payments or insist on long credit terms, and this is reflected in the ageing profile of the group’s receivables. However, as noted above the group’s bad debts experience is negligible. Impairments that do arise are not from credit defaults, but principally from disagreements with a very small number of former customers over their responsibility for renewal fees for maintenance or hosting contracts. Sopheon's policy is to pursue collection of such fees where invoiced and contractually enforceable, but to derecognize revenue if collection is uncertain. 62 FINANCIAL INFORMATION The following is an analysis of the group’s trade receivables identifying the totals of trade receivables that are current and those that are past due but not impaired: At 31 December 2020 At 31 December 2019 Total $’000 Current $’000 13,163 11,110 11,722 10,653 Past Due +30 Days $’000 Past Due +60 Days $’000 479 195 1,574 874 The following is an analysis of the group’s provisions against trade receivables, analyzed between the geographical segments in which the group’s operations are located: Trade receivables North America Europe $’000 Gross Value 8,735 4,428 13,163 2020 $’000 Provision - - - $’000 Carrying Value 8,735 4,428 $’000 Gross Value 8,918 2,809 13,163 11,727 2019 $’000 Provision $’000 Carrying Value - - - 8,918 2,809 11,727 The group records impairment losses on its trade receivables separately from the gross amounts receivable. No impairment losses were recorded during 2020 or 2019. The main factors used in assessing the impairment of the group’s trade receivables are the age of the balances and the circumstances of the individual customer. The company has recognized a proportion of the amounts due to it from its US subsidiaries, taking into account their current profitability and cash holdings. Full details are set out in Note 16 and 27. The company has provided in full for the remaining amounts due from subsidiaries. The company is exposed to credit risk in respect of its cash and cash equivalents, which are held in the form of current and deposit accounts with leading UK, US and European banking institutions. b) Liquidity Risk Liquidity risk arises from the group’s management of working capital and more particularly its ability to be consistently cash generative after finance charges and principal repayments on its debt instruments. It is the risk that the group will encounter difficulties in meeting its financial obligations as they fall due. The group’s policy is to maintain significant cash balances, short-term bank deposits and facilities with a view to having sufficient cash to meet its liabilities when they become due. The board annually approves budgets including cash flow projections for each of the operating companies within the group and receives regular information as to cash balances held and progress against budget. The following table sets out an analysis of the contractual maturity of the group’s and the company’s financial liabilities that must be settled gross, based on exchange rates prevailing at the relevant balance sheet date. FINANCIAL INFORMATION 63 Group At 31 December 2020 On Demand or Within Six Months $’000 Within One Year $’000 Within Two Years $’000 Within Five Years $’000 Trade and other payables Lease liabilities – contractual cash-flow Total financial liabilities 1,117 306 1,423 - 243 243 - 328 328 - 236 236 At 31 December 2019 On Demand or Within Six Months $’000 Within One Year $’000 Within Two Years $’000 Within Five Years $’000 Trade and other payables Lease liabilities – contractual cash flow Total financial liabilities 945 370 1,315 - 320 320 - 480 480 - 500 500 Company At 31 December 2020 On Demand or Within Six Months $’000 Within One Year $’000 Within Two Years $’000 Within Five Years $’000 Trade and other payables Total financial liabilities 177 177 - - - - - - At 31 December 2019 Trade and other payables Total financial liabilities c) Market Risk On Demand or Within Six Months $’000 Within One Year $’000 Within Two Years $’000 Within Five Years $’000 176 176 - - - - - - Total $’000 1,117 1,113 2,230 Total $’000 945 1,670 2,615 Total $’000 177 177 Total $’000 176 176 Market risk arises from the group’s use of interest-bearing and foreign currency financial instruments. It is the risk that the future cash flows of a financial instrument will fluctuate because of changes in interest rates (interest rate risk) or foreign exchange rates (currency risk). The group does not have any financial instruments that are publicly traded securities and is not exposed to other price risk associated with changes in the market prices of such securities. d) Interest Rate Risk The group has no borrowings, other than lease liabilities, in respect of which lease payments are fixed and do not carry interest rate risk. The group invests its surplus cash in bank deposits denominated in US Dollars, Euros or Sterling, which bear interest based on short-term money market rates, and in doing so exposes itself to fluctuations in money market interest rates. The group’s surplus cash held in the form of bank deposits at 31 December 2020 was $12,010,000. During 2020 interest rates on money market deposits averaged at or below 0.5 percent in respect of Euro and Sterling deposits and at around 2 percent in respect of US Dollar deposits. The annualized effect of an increase or decrease of 0.5 percent in the average interest rate received on the group’s bank deposits at the balance sheet date would result in an increase or reduction in the group’s interest income of $60,000. 64 FINANCIAL INFORMATION The group’s cash balances held in bank current accounts do not attract interest, with the exception of certain Euro bank balances on which negative interest rates currently apply. An increase of 0.5 percent in the negative interest rate applicable to these balances at the balance sheet date would result in an increase in negative interest income of $26,000. The company had no interest-bearing bank deposits at the balance sheet date. e) Currency Risk The group’s policy is, where possible, to allow group entities to settle liabilities denominated in the functional currency with cash generated from their own operations in that currency. The group also maintains cash and bank deposits in the currencies that are the functional currencies of its operating entities, which are the US Dollar, the Euro and Sterling. The group is exposed to currency risk in respect of foreign currency denominated bank deposits and bank loans. Taking into account the fact that a large proportion of the group’s income and expenditure arise in US Dollars and, to a lesser extent, in Euros, the group’s policy is not to seek to hedge such currency risk. Foreign currency risk also arises where individual group entities enter into transactions denominated in currencies other than their functional currency, with fluctuations in exchange rates giving rise to gains or losses in the income statement. Where the foreign currency risk to the group is significant, consideration is given to hedging the risk through the forward currency market and, while this would be an economic hedge of the cash flow risk, the group does not employ hedge accounting. The following table shows the effects, all other things being equal, of changes to exchange rates on the group’s profit after tax and on the exchange differences on retranslation of the assets and liabilities of foreign operations that is recognized directly in equity. It illustrates the effects if the exchange rates for Sterling and the Euro against the US Dollar had been higher or lower than those that actually applied during the year and at the year-end. 2020 2019 2020 2019 Increase/ (Decrease) in Profit After Tax $’000 Increase/ (Decrease) in Profit After Tax $’000 Effect on Exchange Differences on Translation of Assets and Liabilities of Foreign Operations $’000 $’000 (75) 25 75 (24) 149 170 (148) (170) 365 (366) 466 (467) 258 (260) 493 (495) Strengthening of Sterling in US Dollar terms by 10c Weakening of Sterling in US Dollar terms by 10c Strengthening of Euro in US Dollar terms by 10c Weakening of Euro in US Dollar terms by 10c The company holds certain assets, mainly bank deposits, and liabilities denominated in the functional currencies of its principal operating subsidiaries, which are the US Dollar, the Euro and Sterling. The following table shows the effects, all other things being equal, of changes to exchange rates at the year-end on the profit after tax of the company. It is based on the company’s assets and liabilities at the relevant balance sheet date. Strengthening of Sterling in US Dollar terms by 10c Weakening of Sterling in US Dollar terms by 10c Strengthening of Euro in US Dollar terms by 10c Weakening of Euro in US Dollar terms by 10c 2019 2020 Increase/(Decrease) in Profit After Tax $’000 $’000 159 (159) 161 (161) 86 (86) 95 (95) FINANCIAL INFORMATION 65 f) Capital The group considers its capital to comprise its share capital, its capital reserves (as set out in Note 24) and its retained earnings. The group is not subject to any externally imposed capital requirements. In managing its capital, the group’s primary objective is to support the development of the group’s activities through to the point where they are cash generative on a sustained basis. The group’s share capital is all equity capital and is summarized in Note 23. 2 3 . S H A R E C A P I TA L Issued and Fully Paid 2020 Number 2020 $’000 2019 Number Ordinary shares of 20 pence each 10,202,888 3,133 10,174,038 2019 $’000 3,126 Throughout the year, the company has had in issue one class of ordinary shares, which have at no time carried any right to fixed income. During the year, 28,850 ordinary shares were issued in connection with the exercise of options at exercise prices ranging from 55p to 150p. 2 4 . C A P I TA L R E S E R V E S Group At 1 January 2019 Issues of shares Recognition of share-based payments Lapsing or exercise of share options At 1 January 2020 Issues of shares Recognition of share-based payments Lapsing or exercise of share options Share Premium $’000 Equity Reserve $’000 Special Reserve $’000 2,258 97 - - 2,355 45 - - 946 - 620 (52) 1,514 - 447 (36) 5,073 - - - 5,073 - - - Total $’000 8,277 97 620 (52) 8,942 45 447 (36) At 31 December 2020 2,400 1,925 5,073 9,398 Company At 1 January 2019 Issues of shares Recognition of share-based payments Lapsing or exercise of share options At 1 January 2020 Issues of shares Recognition of share-based payments Lapsing or exercise of share options Share Premium $’000 Equity Reserve $’000 Special Reserve $’000 2,258 97 - - 2,355 45 - - 946 - 620 (52) 1,514 - 447 (36) 5,073 - - - 5,073 - - - Total $’000 8,277 97 620 (52) 8,942 45 447 (36) At 31 December 2020 2,400 1,925 5,073 9,398 66 FINANCIAL INFORMATION The equity reserve comprises the fair value of share-based payments made to employees pursuant to the group’s share option schemes, offset by credits from the expiry, lapsing or exercise options. In addition, investment by the group’s employee share ownership trust (the “Esot”) in the company’s shares is deducted from equity in the consolidated balance sheet as if they were treasury shares, by way of deduction from the equity reserve. At 31 December 2020, the Esot held 36,472 ordinary shares of 20p each in the company (2019: 36,472) which represents 0.4 percent (2019: 0.4 percent) of the company’s ordinary share capital. The equity reserve includes a deduction of $46,000 (2019: $46,000) which represents the cost of the shares held by the Esot at 31 December 2020. The purpose of the Esot is to facilitate the company’s policy of offering participation in the ownership of its shares to employees for reward and incentive purposes. At 31 December 2020 and at 31 December 2019, no shares held by the Esot were under option or had been gifted to any employees. Arrangements for the distribution of benefits to employees will be made at the Esot’s discretion in such manner as the Esot considers appropriate. Administration costs of the Esot are accounted for in the profit and loss account of the company as they are incurred. The special reserve is a non-distributable reserve arising from a capital reorganization in 2013, which may be used, amongst other purposes as approved by the court, for the same purposes as if it were a share premium reserve. 2 5 . D I V I D E N D S Dividends paid in year Final dividend for 2019 of 3.25p per share paid in July 2020 2020 $’000 2019 $’000 429 430 The directors are proposing a final dividend of 3.25 pence per share in respect of the year ended 31 December 2020 amounting to £332,000 ($453,000). 2 6 . R E T I R E M E N T B E N E F I T P L A N S The group operates defined contribution retirement benefit plans which employees are entitled to join. The total expense recognized in the income statement of $483,000 (2019: $442,000) represents contributions paid to such plans at rates specified in the rules of the plans. 2 7 . R E L AT E D PA R T Y T R A N S A C T I O N S Details of transactions between the group and related parties are disclosed below. Compensation of Key Management Personnel Details of directors’ remuneration are given in Note 7. The total remuneration of executive directors and members of the group’s operating and executive management committees during the year was as follows: Emoluments and benefits Pension contributions Share-based payments 2020 $’000 2,792 73 382 2019 $’000 2,541 67 478 3,247 3,086 FINANCIAL INFORMATION 67 Transactions with Related Parties who are Subsidiaries of the Company The following is a summary of the transactions of the company with its subsidiaries during the year: Net amounts repaid by subsidiaries Net management charges to subsidiaries 2020 $’000 2019 $’000 (3,043) 699 (1,167) 634 The amounts owed by subsidiary companies to the parent company at 31 December 2020 totaled $36,284,000 (2019: $48,415,000). An amount of $16,793,000 (2019: $14,793,000), due from the group’s US and Dutch subsidiary companies, has been recognized in the parent company balance sheet, the balance of amounts due from subsidiaries remaining subject to full provision. Amounts owed by subsidiary companies to the parent company are unsecured and are subordinated to the claims of all other creditors. During 2020 and 2019, the company granted share options to employees of subsidiary companies. Details of grants of share options are disclosed in Note 28. Other Related Party Transactions There were no other related party transactions during the year under review or the previous year. 2 8 . S H A R E - B A S E D PAY M E N T S Equity-settled Share Option Schemes The group has a number of share option schemes for all employees. Options are exercisable at a price equal to the market price on the date of grant. The normal vesting periods are as set out below. Vesting Sopheon plc (USA) stock option plan Sopheon UK approved share option scheme Sopheon UK unapproved share option scheme Sopheon NV share option scheme In three equal tranches between the first and third anniversary of grant On third anniversary of grant Immediate or as per USA plan Immediate or as per USA plan Details of the share options outstanding during 2020 and 2019 are as follows: Outstanding at 1 January 2019 Options granted in 2019 Options exercised in 2019 Options lapsed in 2019 Outstanding at 1 January 2020 Options granted in 2020 Options exercised in 2020 Options lapsed in 2020 Outstanding at 31 December 2020 Exercisable at 31 December 2020 Exercisable at 31 December 2019 Number of Share Options 875,821 30,000 (30,272) (7,155) 868,394 105,000 (28,850) (2,250) Weighted Average Exercise Price £ 3.57 7.20 2.68 5.07 3.72 7.77 1.42 8.17 942,294 4.23 812,531 3.66 712,583 2.97 68 FINANCIAL INFORMATION During 2020, share options were exercised over 28,850 ordinary shares at exercise prices ranging from 55p to 150p. During 2019, share options were exercised over 30,272 ordinary shares at exercise prices ranging from 85p to 900p. The options outstanding at the end of the year have a weighted average contractual life of 5.6 years (2019: 5.9 years). During the year share options were granted on 13 July 2020 when the exercise price of options granted was 775p and the estimated fair value was 459p and on 19 October 2020, when the exercise price of options granted was 785p and the estimated fair value was 465p. During the preceding year share options were granted on 14 October 2019, when the exercise price of options granted was 720p and the estimated fair value was 426p. The fair values for options granted are calculated using the Black-Scholes option-pricing model. The principal assumptions used were: Date of Grant Share price at time of grant Exercise price Expected volatility Risk-free rate Expected dividend yield July 2020 775p 775p 40% 5% 0.4% October 2020 October 2019 785p 785p 40% 5% 0.4% 720p 720p 40% 5% 0.5% The expected contractual life of the options used was five to ten years. Expected volatility was determined by reference to the historical volatility of the company’s share price in the period before the date of grant. 71 D I R E C T O R S Barry Mence, Chairman. Barry Mence has served as executive chairman and as a director and substantial shareholder of Sopheon since its inception in 1993 when he was one of the founding members. From 1976 to 1990, Barry was the major shareholder and group managing director of the Rendeck Group of Companies, a software and services group based in the Netherlands. Andrew Michuda, Chief Executive Officer. Andrew (Andy) Michuda was appointed chief executive officer of Sopheon in 2000. From 1997 to 2000, he served as chief executive officer and an executive director of Teltech Resource Network Corporation, which was acquired by Sopheon. Prior to joining Sopheon, Andy held senior leadership positions at Control Data. Arif Karimjee, ACA, Chief Financial Officer. Arif Karimjee joined Sopheon as chief financial officer in 2000. Arif served as an auditor and consultant with Ernst & Young in the United Kingdom and Belgium from 1988 until joining Sopheon. Stuart Silcock, FCA, Non-Executive Director. Stuart Silcock has served as a director of Sopheon since its inception in 1993 when he was one of the founding members of the company. Since 1982 Stuart has been a principal Partner in Lawford & Co chartered accountants. Stuart was a non-executive director of Brown and Jackson plc for four years from 2001 and has held a number of other directorships in the United Kingdom. Daniel Metzger, Non-Executive Director. Dan Metzger was until 1998 Lawson Software’s EVP Marketing, where he helped the company grow its revenues from $13m to $400m. Since then he has held similar roles at Parametric Technologies, and also at auxilium and nQuire, subsequently sold to Parametric and Siebel respectively. As a strategy consultant, Dan has helped numerous technology companies reach and exceed their growth objectives. Greg Coticchia, President. Greg Coticchia joined Sopheon as President in 2020, and will be appointed a director shortly following publication of this report. He is a recognized entrepreneur, business leader and author with over thirty years’ experience in software products and services. Most recently Greg established the Master’s Program in Product Management at Carnegie Mellon University. He has held executive roles in a number of organizations ranging from startups to $1bn revenue where he has been responsible for driving both organic and acquisition-led growth. 72
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