<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[ x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
--- EXCHANGE ACT OF 1934
For the quarterly period ended July 26, 1996
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
--- EXCHANGE ACT OF 1934
For the transition period from _____ to____
Commission File Number 0-27130
NETWORK APPLIANCE, INC.
(Exact name of registrant as specified in its charter)
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<S> <C>
California 77-0307520
(State or other jurisdiction of incorporation or organization) IRS Employer Identification
319 North Bernardo Avenue, Mountain View, California 94043
(Address of principal executive offices) (zip code)
</TABLE>
Registrant's telephone number, including area code (415) 428-5100
------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X . No .
--------- ---------
Indicate the number of shares outstanding of the issuer's class of common
stock, as of the latest practicable date.
<TABLE>
<CAPTION>
Outstanding at
Class July 26, 1996
----- --------------
<S> <C>
Common Stock 16,147,246
</TABLE>
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NETWORK APPLIANCE, INC.
FORM 10-Q
TABLE OF CONTENTS
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PAGE NO.
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PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets as of July 26, 1996
and April 30, 1996 3
Condensed Consolidated Statements of Operations for the quarter
ended July 26, 1996 and July 28, 1995 4
Condensed Consolidated Statements of Cash Flows for the quarter
ended July 26, 1996 and July 28, 1995 5
Notes to Condensed Consolidated Financial Statements 6-7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 8-11
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 12
Item 2. Changes in Securities 12
Item 3. Defaults Upon Senior Securities 12
Item 4. Submission of Matters to a Vote of Securityholders 12
Item 5. Other Information 12
Item 6. Exhibits and Reports on Form 8-K 12
SIGNATURES 13
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NETWORK APPLIANCE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
July 26, 1996 April 30, 1996
------------- --------------
(Unaudited)
ASSETS
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 21,758 $ 24,637
Short-term investments 6,350 2,982
Accounts receivable, net 6,751 5,330
Inventories 6,993 4,825
Prepaid expenses and other 3,039 2,628
-------- --------
Total current assets 44,891 40,402
PROPERTY AND EQUIPMENT, net 5,704 4,849
OTHER ASSETS 208 198
-------- --------
$ 50,803 $ 45,449
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term obligations $ 19 $ 19
Accounts payable 3,479 2,099
Income taxes payable - 500
Accrued litigation settlement 4,300 -
Other accrued liabilities 2,923 3,125
Deferred revenue 754 378
-------- --------
Total current liabilities 11,475 6,121
-------- --------
LONG-TERM OBLIGATIONS 277 299
-------- --------
SHAREHOLDERS' EQUITY:
Common stock 40,416 39,903
Accumulated deficit (1,365) (874)
-------- --------
39,051 39,029
-------- --------
$ 50,803 $ 45,449
========= =========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
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NETWORK APPLIANCE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
Quarter Ended
July 26, 1996 July 28, 1995
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<S> <C> <C>
NET SALES $ 18,460 $ 7,580
COST OF SALES 7,593 3,528
-------- --------
GROSS MARGIN 10,867 4,052
-------- --------
OPERATING EXPENSES:
Sales and marketing 4,668 2,240
Research and development 1,724 767
General and administrative 1,221 520
Litigation settlement 4,300 -
-------- --------
Total operating expenses 11,913 3,527
-------- --------
INCOME (LOSS) FROM OPERATIONS (1,046) 525
OTHER INCOME (EXPENSE), net 291 4
-------- --------
INCOME (LOSS) BEFORE PROVISION (BENEFIT)
FOR INCOME TAXES (755) 529
PROVISION (BENEFIT) FOR INCOME TAXES (264) -
-------- --------
NET INCOME (LOSS) $ (491) $ 529
========= ============
NET INCOME (LOSS) PER SHARE $ (0.03) $ 0.04
========= ============
WEIGHTED AVERAGE COMMON AND
COMMON EQUIVALENT SHARES 16,150 14,629
========= ============
</TABLE>
See accompanying notes to condensed consolidated financial statements.
4
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NETWORK APPLIANCE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED
<TABLE>
<CAPTION>
Quarter Ended
July 26, 1996 July 28, 1995
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<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (491) $ 529
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation 573 226
Amortization of deferred stock compensation 33 33
Deferred rent (17) 32
Changes in assets and liabilities:
Accounts receivable (1,421) (106)
Inventories (2,168) 690
Prepaid expenses and other (421) (46)
Accounts payable 1,380 (1,866)
Income taxes payable (500) -
Accrued litigation settlement 4,300 -
Accrued liabilities and deferred revenue 174 (46)
------- -------
Net cash provided by (used in) operating activities 1,442 (554)
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of short-term investments, net (3,368) -
Purchases of property and equipment (1,428) (463)
------- -------
Net cash used in investing activities (4,796) (463)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt - 1,250
Repayments of long-term obligations (5) (42)
Proceeds from sale of common stock, net 480 187
------- -------
Net cash provided by financing activities 475 1,395
------- -------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (2,879) 378
CASH AND CASH EQUIVALENTS
Beginning of period 24,637 1,791
------- -------
End of period $21,758 $ 2,169
======= =======
</TABLE>
See accompanying notes to condensed consolidated financial statements.
5
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NETWORK APPLIANCE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The accompanying condensed consolidated financial statements have
been prepared by Network Appliance, Inc. (the Company) without audit and reflect
all adjustments which are, in the opinion of management, necessary for a fair
presentation of the financial position and the results of operations of the
Company for the interim periods. The statements have been prepared in accordance
with the regulations of the Securities and Exchange Commission. Accordingly,
they do not include all information and footnotes required by generally accepted
accounting principles. The results of operations for the three month period
ended July 26, 1996 are not necessarily indicative of the operating results to
be expected for the full fiscal year or future operating periods. The
information included in this report should be read in conjunction with the
audited financial statements and notes thereto for the fiscal year ended April
30, 1996 and the risk factors as set forth in the Company's Annual Report on
Form 10-K, including, without limitation, risks relating to history of operating
losses, fluctuating operating results, dependence on new products, rapid
technological change, dependence on growth in the network file server market,
expansion of international operations, product concentration, changing product
mix, competition, recent management additions, management of expanding
operations, dependence on high quality components, dependence on proprietary
technology, intellectual property rights, dependence on key personnel,
volatility of stock price, shares eligible for future sale, concentration of
stock ownership, effect of certain anti-takeover provisions and dilution. Any
party interested in reviewing these publicly available documents should write to
the SEC or the Chief Financial Officer of the Company.
2. INVENTORIES
Inventories consist of the following (in thousands):
<TABLE>
<CAPTION>
July 26, 1996 April 30, 1996
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<S> <C> <C>
Purchased components $3,714 $2,161
Work in process 1,819 970
Finished goods 1,460 1,694
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$6,993 $4,825
====== ======
</TABLE>
3. NET INCOME (LOSS) PER SHARE
Net income (loss) per share is computed using the weighted
average number of common and common equivalent shares outstanding during the
period. Common equivalent shares include preferred stock (using the "if
converted" method) and stock options and warrants (using the treasury stock
method). Common equivalent shares are excluded from the computation if their
effect is anti-dilutive.
6
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4. LITIGATION SETTLEMENT
In July 1994, the Company and certain of its former employees
were named as defendants in a lawsuit which alleged that one of the Company's
founders, who left the Company in March 1995, misappropriated confidential
information prior to the Company's founding in April 1992.
In August 1996, the Company reached a settlement in principle
with the plaintiffs which resulted in a charge to earnings of $4.3 million in
the first quarter of fiscal 1997, which includes a $3.5 million payment to the
plaintiffs and $800,000 of legal fees. The payment releases the Company from all
liabilities associated with the case. The Company has no future obligations to
the plaintiffs. The Company denies any wrongdoing on its part or on the part of
the founder.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Network Appliance was incorporated in April 1992 to design,
manufacture, market and support network data storage appliances. In September
1995, the Company introduced the NetApp F330, a rack-mounted, Pentium and PCI
bus-based filer, and in January 1996, the Company introduced the NetApp F220, a
rack-mounted, Pentium and PCI bus-based filer designed for workgroup and LAN
environments. In May 1996, the Company introduced the NetApp F540, an
enterprise-class file server appliance. The Company's filer products combine
specialized proprietary software and state-of-the-art industry standard hardware
to provide a unique solution for the NFS server market.
RESULTS OF OPERATIONS
The following table sets forth certain consolidated statement of
operations data as a percentage of net sales for the periods indicated.
<TABLE>
<CAPTION>
Quarter Ended
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July 26, July 28,
1996 1995
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Net sales............................................................ 100.0% 100.0%
Cost of sales........................................................ 41.1 46.5
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Gross margin......................................................... 58.9 53.5
Operating expenses:
Sales and marketing................................................ 25.3 29.6
Research and development........................................... 9.4 10.1
General and administrative......................................... 6.6 6.9
Litigation settlement.............................................. 23.3 -
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Total operating expenses.................................. 64.6 46.6
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Income (loss) from operations........................................ (5.7) 6.9
Other income (expense), net.......................................... 1.6 0.1
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Income (loss) before income taxes.................................... 4.1 7.0
Provision (benefit) for income taxes................................. (1.4) -
------ ------
Net income (loss).................................................... (2.7)% 7.0%
====== ======
</TABLE>
Net Sales. Net sales increased by approximately 143.5% from $7.6
million for the three months ended July 28, 1995 to $18.5 million for the three
months ended July 26, 1996. The increase in net sales resulted primarily from
the Company's expansion of its domestic direct sales force, increased market
acceptance of the Company's products and the introduction of the NetApp F330,
F220 and F540. The Company also shipped more units directly to end users, which
generally purchase more highly configured systems at higher average selling
prices than resellers.
8
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Gross Margin. Gross margin increased from 53.5% for the three
months ended July 28, 1995 to 58.9% for the three months ended July 26, 1996.
This increase in gross margin was primarily attributable to more efficient
absorption of manufacturing overhead, lower costs of key components and
manufacturing efficiencies achieved during the three month period ended July 26,
1996, all of which were related to the significant increase in production
volume. These factors offset the effect of increased sales of highly configured
systems during these periods which generally generate lower gross margins per
system.
The Company's gross margin has been and will continue to be
affected by a variety of factors, including competition, product configuration,
direct versus indirect sales, the mix and average selling prices of products,
new product introductions and enhancements, and the cost of components and
manufacturing labor. In particular, the Company's gross margin varies based upon
the configuration of systems that are sold and whether they are sold directly or
through indirect channels. The Company offers products in both highly configured
systems, as well as in minimally configured systems. Typically, highly
configured systems generate lower overall gross margins due to greater disk
drive and memory content. Highly configured systems are generally sold directly
to end users.
Sales and Marketing. Sales and marketing expenses consist
primarily of salaries, commissions, advertising and promotional expenses and
customer service and support costs. Sales and marketing expenses increased
108.4% from $2.2 million for the three months ended July 28, 1995 to $4.7
million for the three months ended July 26, 1996. These expenses were 25.3% and
29.6% of net sales for the three months ended July 26, 1996 and July 28, 1995,
respectively. The increase in absolute dollars was primarily related to the
expansion of the Company's sales and marketing organization, particularly the
increase in the direct sales force, and increased commission expenses related to
higher sales volumes. The Company expects to continue to increase its sales and
marketing expenses in an effort to expand domestic and international markets,
introduce new products, and establish and expand new distribution channels.
The Company believes that its continued growth and profitability
is dependent in part on the successful expansion of its international
operations, and therefore, has committed significant resources to international
sales.
Research and Development. Research and development expenses
consist primarily of salaries and benefits, prototype expenses, and fees paid to
outside consultants. Research and development expenses increased 124.8% from
$767,000 for the three months ended July 28, 1995 to $1.7 million for the three
months ended July 26, 1996. These expenses represented 9.4% and 10.1%,
respectively, of net sales for the quarters ended July 26, 1996 and July 28,
1995, respectively. These expenses increased in absolute dollars primarily as a
result of increased headcount, prototyping expenses associated with the
development of new products and the support of the current and future product
development and enhancement efforts. The Company believes that significant
investments in research and development will be required to remain competitive
and expects that such expenditures will continue to increase in absolute
dollars. To date, no software development costs have been capitalized as amounts
that qualify for capitalization have been immaterial.
General and Administrative. General and administrative expenses
were approximately $1.2 million in the three months ended July 26, 1996,
compared to $520,000 in the three months ended July 28, 1995. These expenses
represented 6.6% and 6.9%, respectively, of net sales for such periods.
Increases in general and administrative expenses related primarily to certain
litigation expenses, increased staffing, professional fees, facilities expansion
and related occupancy costs and information system investments necessary to
manage and support the Company's growth. The Company believes that its general
and administrative expenses will increase as the Company continues to build its
infrastructure.
Litigation Settlement. In July 1994, the Company and certain of
its former employees were named as defendants in a lawsuit which alleged that
one of the Company's founders, who left the Company in March 1995,
misappropriated confidential information prior to the Company's founding in
April 1992. In August 1996, the Company reached a settlement in principle with
the plaintiffs which resulted in a charge to earnings of $4.3 million in the
quarter ended July 26, 1996, which includes a $3.5 million payment to the
plaintiffs and $800,000 of legal fees. The payment releases the Company from all
9
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liabilities associated with the case. The Company has no future obligations to
the plaintiffs. The Company denies any wrongdoing on its part or on the part of
the founder.
Other Income, net. Other income, net, was approximately $291,000
and $4,000 in the three months ended July 26, 1996 and July 28, 1995,
respectively. In both of these periods, other income, net, represented less than
2% of net sales. Other income, net, increased in the three month period ended
July 26, 1996 compared to the same period of the prior year due primarily to
interest income earned on the net proceeds of approximately $25.7 million from
the Company's initial public offering that was completed in November 1995.
Provision (Benefit)for Income Taxes. In fiscal 1996, the
Company's federal and state income tax liabilities were offset by the
realization of a portion of its net deferred tax assets, and accordingly no
provision for income taxes was incurred in the three months ended July 28, 1995.
The Company has recorded a provision (benefit) for income taxes in the quarter
ended July 26, 1996 utilizing an income tax rate of 35%, which is the
anticipated effective tax rate for fiscal 1997.
The Company's quarterly operating results have in the past varied
and may in the future vary significantly depending on a number of factors,
including the level of competition; the size and timing of significant orders;
product configuration and mix; market acceptance of new products and product
enhancements; new product announcements or introductions by the Company or its
competitors; deferrals of customer orders in anticipation of new products or
product enhancements; changes in pricing by the Company or its competitors; the
ability of the Company to develop, introduce and market new products and product
enhancements on a timely basis; hardware component costs; supply constraints;
the Company's success in expanding its sales and marketing programs;
technological changes in the network file server market; the mix of sales among
the Company's sales channels; levels of expenditure on research and development;
changes in Company strategy; personnel changes; general economic trends and
other factors. Although the Company has not experienced seasonality in the past,
because of the significant seasonal effects experienced within the industry and
the Company's goal to expand international sales, there can be no assurance that
the Company's future operating results will not be adversely affected by
seasonality.
Sales for any future quarter are not predictable with any
significant degree of certainty. The Company generally operates with limited
order backlog because its products typically are shipped shortly after orders
are received. As a result, product sales in any quarter are generally dependent
on orders booked and shipped in that quarter. Product sales are also difficult
to forecast because the network file server market is rapidly evolving and the
Company's sales cycle varies substantially from customer to customer. A
significant portion of the Company's revenues in any quarter may be derived from
sales to a limited number of customers. Any significant deferral of these sales
could have a material adverse effect on the Company's results of operations in
any particular quarter; and to the extent that significant sales occur earlier
than expected, operating results for subsequent quarters may be adversely
affected. The Company's expense levels are based, in part, on its expectations
as to future sales. As a result, if sales levels are below expectations, net
income may be disproportionately affected. Although the Company has experienced
significant revenue growth in recent periods, the Company does not believe such
growth is indicative of future operating results. The Company believes that
period-to-period comparisons of its results of operations are not necessarily
meaningful and should not be relied upon as an indicator of future performance.
Due to all of the foregoing factors, it is possible that in some future quarter
the Company's operating results may be below the expectations of public market
analysts and investors. In such event, the price of the Company's Common Stock
would likely be materially adversely affected.
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LIQUIDITY AND CAPITAL RESOURCES
As of July 26, 1996, the Company's liquidity primarily consisted
of cash and cash equivalents of $21.8 million and short-term investments of $6.4
million.
The Company generated cash from operating activities totaling
$1.4 million in the three months ended July 26, 1996 and used cash for operating
activities totaling $554,000 in the three months ended July 28, 1995. The use of
cash in the three months ended July 28, 1995 was primarily attributable to a
decrease in accounts payable, partially offset by net income. Net cash provided
by operating activities in the three months ended July 26, 1996 principally
related to an increase in accrued litigation settlement, offset by increases in
accounts receivable and inventories and a net loss of $491,000 recorded in the
quarter.
The Company used approximately $1.4 million and $463,000 of cash
during the three months ended July 26, 1996 and July 28, 1995, respectively, to
purchase property and equipment. In addition, the Company used approximately
$3.4 million in the three months ended July 26, 1996 to purchase short-term
investments. Financing activities provided $475,000 and $1.4 million during the
three months ended July 26, 1996 and July 28, 1995, respectively, due primarily
to the sale of common stock in the first quarter of fiscal 1997 and the issuance
of long-term debt in the first quarter of fiscal 1996.
The Company currently has no significant capital commitments
other than commitments under operating and capital leases. The Company believes
that its existing liquidity will satisfy the Company's projected working capital
and other cash requirements for at least the next twelve months.
This Form 10-Q contains forward-looking statements about future
results which are subject to risks and uncertainties. Network Appliance's actual
results may differ significantly from the results discussed in the
forward-looking statements. Factors that might cause such a difference include,
but are not limited to, the level of competition; the size and timing of
significant orders; product configuration and mix; market acceptance of new
products and product enhancements; new product announcements or introductions by
the Company or its competitors; deferrals of customer orders in anticipation of
new products or product enhancements; changes in pricing by the Company or its
competitors; the ability of the Company to develop, introduce and market new
products and product enhancements on a timely basis; hardware component costs;
supply constraints; the Company's success in expanding its sales and marketing
programs; technological changes in the network file server market; the mix of
sales among the Company's sales channels; levels of expenditure on research and
development; changes in Company strategy; personnel changes; general economic
trends and other factors. Although the Company has not experienced seasonality
in the past, because of the significant seasonal effects experienced within the
industry and the Company's goal to expand international sales, there can be no
assurance that the Company's future operating results will not be adversely
affected by seasonality. The Company is subject to a variety of other additional
risk factors, more fully described in the Company's Annual Report on Form 10-K
filed with the Securities and Exchange Commission.
11
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<TABLE>
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In July 1994, the Whipsaw Group,
Robert and Ellen Cousins, and certain other
individuals filed suit alleging breach of contract,
breach of fiduciary duty, fraud, misappropriation
of trade secrets and other related claims against
the Company, Michael Malcolm (a former officer),
Owen Brown and Migration Software Systems, Ltd.
(the "Whipsaw Litigation"). The plaintiffs allege
that they disclosed trade secrets and proprietary
information to Messrs. Brown and Malcolm under
written and/or oral confidentiality agreements, and
that Messrs. Brown and Malcolm misappropriated
those trade secrets and that the Company is based
entirely on the trade secrets and proprietary
information misappropriated from the Whipsaw Group.
On August 14, 1996, the Company agreed to settle
this lawsuit brought against them by the Whipsaw
Group. In connection with the settlement, the
Company recorded a pre-tax charge of $4.3 million
in the quarter ended July 26, 1996, which includes
a $3.5 million payment to the plaintiffs and
$800,000 of legal fees. The total settlement with
the plaintiffs consists of a single cash payment
and releases the Company from all liabilities.
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
None
</TABLE>
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SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, as
amended, the registrant duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
NETWORK APPLIANCE, INC.
(Registrant)
/s/ Michael J. McCloskey
----------------------------------------
Date: September 6, 1996 By: Michael J. McCloskey
Vice President, Finance and Operations
Chief Financial Officer
13
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> APR-30-1997
<PERIOD-START> MAY-01-1996
<PERIOD-END> JUL-26-1996
<EXCHANGE-RATE> 1
<CASH> 21,758
<SECURITIES> 6,350
<RECEIVABLES> 6,751
<ALLOWANCES> 330
<INVENTORY> 6,993
<CURRENT-ASSETS> 44,891
<PP&E> 5,704
<DEPRECIATION> 0
<TOTAL-ASSETS> 50,803
<CURRENT-LIABILITIES> 11,475
<BONDS> 0
0
0
<COMMON> 40,416
<OTHER-SE> (1,365)
<TOTAL-LIABILITY-AND-EQUITY> 50,803
<SALES> 18,460
<TOTAL-REVENUES> 18,460
<CGS> 7,593
<TOTAL-COSTS> 7,593
<OTHER-EXPENSES> 11,913
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (755)
<INCOME-TAX> (264)
<INCOME-CONTINUING> (491)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (491)
<EPS-PRIMARY> (.03)
<EPS-DILUTED> 0
</TABLE>
