SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-K/A
(restated)
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 1997 Commission File No. 0-27742
CYLINK CORPORATION
(Exact name of registrant as specified in its charter)
California 95-3891600
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
910 Hermosa Court
Sunnyvale, California 94086
(Address of principal executive offices)
(408) 735-5800
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock
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 by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X ]
The aggregate market value of voting stock held by non-affiliates of the
Registrant, based upon the closing sale price of the Common Stock on March 13,
1998, as reported by the Nasdaq National Market, was approximately $192,160,000.
Shares of Common Stock held by each officer and director and by each person who
owns 5% or more of the outstanding Common Stock, based on Schedule 13G filings,
have been excluded from the computation in that such persons may be deemed to be
affiliates. This determination of affiliate status is not a conclusive
determination for other purposes.
As of March 13, 1998, there were 28,810,085 shares of the Registrant's Common
Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Parts of the Registrant's Proxy Statement for its Annual Meeting of Shareholders
(the "Proxy Statement") to be held on May 22, 1998, are incorporated by
reference in Part III of this Form 10-K to the extent stated herein.
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PART I
The statements contained in this Report on Form 10-K/A that are not
purely historical are forward-looking statements within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934, including statements regarding Cylink Corporation's ("Cylink" or the
"Company") expectations, hopes, intentions, beliefs or strategies regarding the
future. Forward-looking statements include: the Company's statements in Part I,
Item 1 "Business" regarding (i) its strategies for being a leading provider of
enterprise-wide network security products and to establish network security
standards for the secure exchange of information, (ii) its plans to develop
domestic and international strategic marketing and product development
relationships with key members of the industries addressed by the Company's
products, (iii) its expected research and development expenditures for the
enhancement of the Company's existing products, including its PrivateWire and
PrivaCy Manager products, and for the development and introduction of new
products, and (iv) the Company's intention to expand foreign sales channels and
enter additional international markets, and (v) the Company's belief that its
CIDEC-VHS/VHX products are currently the fastest data link encryptors available
in the world today for commercial use; the Company's statements in Item 2
"Properties" that it believes its current facilities are and will be adequate
for the foreseeable future; the Company's statement in Item 7 "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
regarding (i) the Company's expectation that it will more likely than not
realize its net deferred tax assets based on future income in the next twelve
months, and (ii) the sufficiency of the Company's existing liquidity and capital
resources; and (iii) management's belief that resolution of certain litigation
described in Note 10 of the Notes to Consolidated Financial Statements contained
in Item 8 "Financial Statements and Supplementary Data" will not have a material
adverse effect on the Company's financial position. All forward-looking
statements included in this document are based on information available to the
Company as of the date of this Report on Form 10-K, and the Company assumes no
obligation to update any such forward-looking statements, or to update the
reasons why actual results could differ from those projected in the
forward-looking statements. It is important to note that the Company's actual
results could differ materially from those in such forward-looking statements
for the reasons detailed in Item 1 "Business The Cylink Strategy, - Network
Security Products, - Research and Development, and - Risk Factors That May
Affect Future Results," and other sections of this Report on Form 10-K. You
should also consult the risk factors listed from time to time in the Company's
Reports on Form 10-Q, 10-Q/A, 8-K, 10-K and Annual Reports to the Shareholders.
On November 5, 1998, the Company publicly announced that it and its
independent accountants had initiated a review of revenue recognition practices
which would result in a restatement of previously issued first and second
quarter 1998 results and that all three quarters of 1998 were expected to show
substantial operating losses. During the review, certain facts became known
indicating errors had been made in the application of revenue recognition
policies which also impacted the fourth quarter of 1997, and as a result, 1997
full-year results have been restated along with first and second quarter 1998
results. These restated results were announced in a press release dated December
16, 1998 and reported in a Form 8-K filed January 29, 1999. The Company has
filed amended Forms 10-Q/A for the first and second quarters of 1998.
This Annual Report on Form 10-K/A amends Items 6, 7 and 8 of the
Company's Annual Report on Form 10-K previously filed for the year ended
December 31, 1997. This Annual Report on Form 10-K/A is filed in connection with
the Company's restatement of its financial statements for the year ended
December 31, 1997. Financial statement information and related disclosures
included in this amended filing reflect, where appropriate, changes as a result
of the restatement. Except as otherwise noted, information contained in this
Annual Report on form 10-K/A is stated as of December 31, 1997.
ITEM 1. BUSINESS
The Company develops, markets and supports network security products
that enable and manage the secure transmission and authentication of information
over local area networks ("LANs"), wide area networks ("WANs"), public packet
switched networks, such as the Internet, and broadcast networks. The Company's
products offer an integrated, flexible solution for transforming any portion of
an enterprise's network into a virtual private network ("VPN") by utilizing
public key encryption technologies to create and manage an enterprise's security
infrastructure, and to provide secure access for local and remote authorized
users of its proprietary information and services. The Company's network
security portfolio consists of hardware and software encryption platforms,
certificate servers, remote access gateways, network security management
systems, toolkits, public key processors, advanced intelligent smart cards,
smart card operating systems, easily deployed card readers and conditional
access technology for broadcast networks. The Company
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is also conducting advanced research and development in the field of digital
water marking for protection of intellectual property.
The Company was formed in 1984 as a partnership and subsequently
incorporated in California in 1989. In February and March of 1996, the Company
completed its initial public offering and its Common Stock began trading on the
Nasdaq National Market under the symbol CYLK. Through the offering, the Company
sold 5,750,000 shares of its Common Stock which generated approximately $78.9
million of cash, net of underwriting discounts, commissions and other offering
costs.
On September 8, 1997, the Company purchased all of the outstanding
shares of Algorithmic Research Ltd., an Israeli company ("ARL"), as well as one
of its shareholders, Algart Holdings Ltd., an Israeli Company, in exchange for a
total consideration of 3,002,810 shares, including options to purchase shares,
of Cylink Common Stock and $46.7 million in cash, including assumption of
certain sellers' expenses.
Cylink further offers a line of spread spectrum radio products for
wireless transmission of voice and data communications which operate in the
unlicenced spread spectrum bands adopted by the U.S. Federal Communications
Commission ("FCC") in 1985 and subsequently adopted in many other countries
throughout the world. The Company's spread spectrum radio products focus
primarily on the fixed location, outdoor, wireless communications infrastructure
market. On March 28, 1998, the Company sold all of the assets comprising its
Wireless Communications Group to P-Com Inc., a Delaware Corporation located in
Campbell, California, for total consideration of $60.5 million, subject to final
closing adjustments, consisting of $46 million in cash and a promissory note in
the amount of $14.5 million due 100 days after closing. Pursuant to the
restatement referenced above, the sales proceeds would have been approximately
$58.4 million resulting in a note receivable of approximately $12.4 million (a
reduction of $2.1 million in the initial note receivable).
The Company operates in one industry segment - secure communications
products. The Company's principal operations outside of the United States
comprise research and development in Israel, as well as sales and service
offices located in the United Kingdom and several other countries in Europe and
the Far East. See Note 11 of the "Notes to Consolidated Financial Statements"
for geographic area information.
Industry Background
The market for the Company's network security products continues to
expand due to the steady growth of private leased lines, the growth of packet
switched networks, and the increasing deployment of applications and systems for
transmitting proprietary information and commercial transactions over various
network topologies. Commercial and government enterprises continue to expose
increasing amounts of their proprietary information to the security weaknesses
inherent to their electronic communication networks, with a commensurate
escalation in the risk of misappropriation of their enterprises' resources and
the ensuing demand for verifiable identification of its authorized users. The
Company believes that the rate of penetration for all network security products
offered today lags well behind the growth in the addressable market.
During the last twelve to eighteen months, the consolidation of the
network security industry has accelerated as the leading vendors seek to acquire
more rapidly the core technologies required for a comprehensive enterprise
security solution. This consolidation reflects the market's consensus that a
broad, flexible portfolio of network security products from a limited number of
suppliers is preferable to the procurement and integration of products supplied
by numerous vendors, each of which specializes only in partial solutions for the
customer's data communications infrastructure. Consequently, vendors whom
initially entered the market by addressing a specific requirement, are now
expanding their product lines by licensing technologies from third parties,
enhancing the interoperability of their products through cooperative
arrangements, and acquiring technology through mergers and acquisitions of
vendors having complementary offerings.
Examples of such partial solutions include stand alone "Firewall"
products, which offer access control primarily by filtering packet addresses,
virus protection, and password based tokens based on time-varying and
challenge-response protocols. These tokens and access control systems generally
provide some level of user authentication, but lack the capability of ensuring
privacy of communications, integrity of the data or non-repudiation of the
transaction. Many other encryption products provide privacy, but do not perform
the other security functions, nor are they easily controlled or managed from one
central location. New techniques for auditing network security are also entering
the market, such as
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intrusion detection tools which, by themselves, do not enable security within
the enterprise. Although several entities have commenced offering services as
certificate authorities to verify the authenticity of network correspondents'
public keys, the enterprise's management of its private keys has received
comparably less attention. As customers demand greater ease of management for
their security solutions, a uniform method of key management for both private as
well as public keys, across applications, will be required.
Along with this consolidation in the network security industry, major
participants in the networking, computing and operating systems industries
continue to make their presence felt by offering security related products of
their own, by licensing and incorporating base encryption technology into their
own core products, and by promoting or endorsing various standards initiatives.
It remains to be seen whether these entities will make a significant, strategic
investment in security technologies, or whether their involvement to date is
merely symptomatic of the increased awareness of enterprise security issues by
customers of these computing and networking participants.
The Cylink Solution
Through its products introduced over the last five years, those
recently added by virtue of the Company's acquisition of ARL, and those products
presently under development, Cylink offers a comprehensive, system-wide solution
that delivers the critical services for both network level and application
security: authentication, authorization, audit, integrity and privacy, all
within a scaleable, centrally-managed system. For over twelve years, the Company
has pioneered the use of Public Key cryptography as one of its core technologies
by, among other accomplishments, becoming the first commercially successful
supplier of network security encryption devices incorporating the Diffie-Hellman
automated key management solution. Today, the Company's products incorporate
state-of-the-art commercial security technologies, including Public Key
cryptography-based digital signatures, certificates and key management
techniques, which enable the Company to offer broad, flexible solutions for
creating VPNs for local and remote users.
The Cylink Strategy
The Company intends to maintain its position as a leading provider of
enterprise-wide network security solutions and to promote standards for the
secure exchange of information and transactions among users of LANs, WANs and
public networks. The Company seeks to achieve these goals through the following
strategies:
o Offer Comprehensive Enterprise-Wide Network Security Solutions. The
Company's strategy is to offer a broad, centrally managed and flexible line
of network security products to create VPNs within both enterprises and
global networks. For example, the Company recently introduced ARL's
PrivateWire family of components for securing remote access over the
Internet, including both software and smart card tokens for clients, and a
highly portable, easily installed card reader. By offering a toolkit for
integrating the customer's applications with the entire PrivateWire family,
including a public key smart card and an ISO compliant card reader, the
Company believes the PrivateWire family delivers a complete, scalable, and
expandable public key security solution for customers' existing
applications. In addition, the Company continues to improve its Secure
Manager by consolidating management of all Company products under one
Java-based, browser-enabled platform, branded "PrivaCy Manager". When
coupled with ARL's component technologies, PrivaCy Manager may be offered
as a key management infrastructure for third party products, as well as the
Company's own solutions.
o Maintain and Leverage Its Expertise in Public Key Technology. The Company
plans to maintain its expertise in the application of Public Key
cryptography through a combination of internal research and development
efforts. On occasion, the Company will also accept funded development
contracts when the Company believes such projects will yield commercial
applications for the Company's own technologies. With the recent
acquisition of ARL, the Company has enhanced its expertise in the
application of Public Key technology to smart cards, including on board
operating systems and applications, remote access services and the emerging
field of conditional access encryption for broadcast networks. ARL's
security operating system is incorporated in one of the most widely
deployed public key tokens in the world today for conditional access to
broadcast networks. In 1997, the Company had net research and development
expenses of approximately $12.5 million.
o Broaden Acceptance of the Company's Public Key Technology through
Licensing. The Company actively seeds the computer, networking and
telecommunications industries with its specific methods of implementing
Public Key to ensure a compatible market for the Company's technology and
products. During 1997 the Company licensed to
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Microsoft Corporation the right to incorporate certain of the Company's
core Public Key components in Microsoft's products, including NT and
Internet Explorer. In addition, the Company licensed to JavaSoft the right
to incorporate the Company's certificate technology in the Java development
kit. By licensing these technologies to Microsoft and JavaSoft on
royalty-free terms the Company is encouraging the broadest possible
dissemination of this base technology, thereby creating opportunities for
greater acceptance of the Company's products. Prior to their expiration in
1997, the Company also held exclusive sublicensing rights to the
fundamental Public Key patents owned by Stanford University (the "Stanford
Patents"). Pursuant to its agreement with Stanford University, the Company
successfully sublicensed over thirty other companies to adopt methods of
Public Key similar to those developed by the Company. In the meantime, the
Company continues to offer developers a suite of cryptographic libraries
and tools to utilize components of the Company's Public Key technology.
o Continue Expansion into Emerging Public Network Markets. The Company
intends to leverage its expertise in securing private networks by offering
security solutions which address the emerging demand for both VPNs within
public networks and secure, remote access to enterprise networks. The
Company's acquisition of ARL and the introduction of its PrivateWire family
of products demonstrate the Company's commitment to meeting these
requirements.
o Build and Foster Strategic Relationships. The Company intends to continue
to develop strategic marketing and product development relationships with
key members of the industries it serves. Applying its expertise in Public
Key technology, the Company has developed applications for parties such as
AT&T, Cisco Systems, Inc., the Society for Worldwide Interbank Financial
Telecommunications ("S.W.I.F.T."), and the Federal Reserve Bank. In
addition, the Company believes its open licensing of certain components to
Microsoft and JavaSoft, as well as the Company's offerings of software
security toolkits and developers' libraries, will attract and enhance
future development opportunities. With its PrivateWire and PrivaCy Manager
offerings, the Company also believes it has an attractive key management
solution for potential partners.
Note, however, that the market for the Company's network security
products is continuing to emerge. This market is characterized by rapidly
changing technology, evolving industry standards, new product introductions and
changes in customer requirements and preferences. The Company's future will
depend in part upon end users' demand for network security products in general,
and upon the Company's ability to enhance its existing products and to develop
and introduce new products and technologies that meet customer requirements. Any
significant advance in techniques for attacking cryptographic systems could
render some or all of the Company's existing and new products obsolete or
unmarketable. To the extent that the Company is unable to adopt and incorporate
emerging standards for implementing network security in a market segment, sales
of the Company's existing and planned products in that market segment would be
significantly less than the levels currently anticipated by the Company. There
can be no assurance that network security-related products or technologies
developed by others will not adversely affect the Company's competitive position
or render its products or technologies noncompetitive or obsolete. See "Business
- - Risk Factors That May Affect Future Results -- Competition, -- Evolving
Network Security Market, and -- Rapid Technological Change."
Technology
The Company's network security products are based on Public Key
cryptography techniques, which were first developed in 1976 at Stanford
University by Drs. Diffie and Hellman. The Public Key cryptography methods
adopted by the Company require that each user be assigned both a private number,
which is confidential, and a mathematically related public number, which can be
revealed without compromising the user's private number. Diffie-Hellman key
exchange provides for two users in a data network to exchange their public
numbers and then compute a shared secret number that is unique to them. This
shared secret number can then be used as the secret encryption key in a
conventional encryption system to maintain the privacy of the communication
between two users.
The Company has adopted advanced Public Key digital signature methods.
An individual's digital signature is a set of unique binary numbers, which is
derived from a combination of the message and the signer's private number. Any
user in the network can verify this digital signature by using only the sender's
public number. Digital signature methods which can scale to potentially millions
of users are recognized as an indispensable foundation for secure electronic
transactions.
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The Company's products enable network administrators to act as
certificate authorities that permit each authorized device in the network,
including individual's software and hardware tokens, to have the device's public
number validated for the purpose of establishing its authenticity to others. The
certification authority provides each authorized user with an electronic
message, known as a certificate, containing that user's name, public number,
unique privileges within the network and expiration date. Such privileges, for
example, can define the portions of the network which the user is authorized to
enter, the level of the user's authority to conduct transactions within those
portions of the network, and the network services the user may enjoy. This
message is digitally signed by the network administrator to create the user's
certificate, which in effect serves to notarize the user's public number and
enable that user to conduct secure communications with other certified users
within the network.
The Company's Public Key certificate technology is incorporated in the
Company's network management systems for its products. The Company has
consolidated its network management technologies into one Java-based platform
which the Company intends to offer as a remote, centralized management system
for its products, as well as third party products which integrate the Company's
management solutions.
The Company and its newly acquired subsidiary, ARL, have developed
integrated software modules which are incorporated in the Company's network
security products. These software libraries implement the Public Key
cryptography techniques for the Company's key management systems, digital
signatures and certificates to provide complete, scaleable enterprise-wide
network security solutions. For example, by combining ARL's software toolkits
with the Company's network management system, the Company may offer a complete,
integrated key management infrastructure. In addition, ARL's software components
are compatible with most off-the-shelf third party applications which can then
utilize the security services of ARL's PrivateWire family of software and smart
card tokens remote access.
The Company also designs application specific integrated circuits
("ASICs") and custom integrated circuits to implement its encryption algorithms
and Public Key techniques in order to provide increased performance, security
and functionality in its products at reduced cost. Cylink's significant
technical achievements in the area of proprietary ASIC design include encryption
chips with speeds up to 155 megabits per second ("Mbps") and Public Key
co-processor chips that have the capability of handling 1,024 bit numbers.
The Company's network security products are designed to secure existing
networks without reducing performance or requiring modifications to customers'
existing network hardware or software. This ease of integration is accomplished
with a broad range of hardware and software implementations of network
interfaces, which enable the Company's security products to connect to most
networks in use today throughout the world. The current list of network
interfaces used in Company products include: T1 (1.5 Mbps), T2 (6.2 Mbps), T3
(45 Mbps), E1 (2 Mbps), E3 (34 Mbps), X.25, V.35, X.21, Frame Relay (FRF.1,
FRF.3 and FRF.4), NTT T1 (Japan), 10 Base 2, 10 Base 5, 10 Base T, HSSI, RS-232
and RS-422.
Network Security Products
The following table sets forth Cylink's principal network security
products currently offered or under development:
Year
Product Description Introduced
- ----------------- -------------------------------- ----------
Global Network Security
Cidec Line
CIDEC-HS High Speed T1 Link Encryption 1986
CIDEC-MS Medium Speed Link Encryption 1987
CIDEC-LS Low Speed Link Encryption 1987
CIDEC-VHS Very High Speed T3 Encryption 1990
CIDEC-MLS Integrated Link Cards 1993
CED Card (AT&T) Encryption Signaling System 1997
SecureLink Line Next Generation Link Encryptors *
X-25
- -----------------------------
* Indicates products under development and scheduled for introduction in 1998.
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SecureX25L Low Speed X.25 Packet Encryption 1993
SecureX25H High Speed X.25 Packet Encryption 1994
SecureFrame
SecureFrame Frame Relay Packet Encryption 1996
SecureFrame - LS Low Speed Frame Relay Encryption 1997
Enterprise Security
SecureLAN Family
SecureDomain Router Domain Packet Encryption/Access 1996
EPA Card (Cisco) Encryption Processor for
Cisco 7700 Series Router 1997
SecureAccess Family
SecureGate Dial Up Remote Access, PSTN 1996
SecureTraveler SecureGate Encryption Software Client 1997
PrivateWire Family
PrivateWire Remote Access, Secure TCP/IP
Communications 1997
Firewall, and Authorization Management *
PrivateCard Full On Board Public Key Smart Card *
PrivateSafe Portable Card Reader
SecureManager
CSMS SecureX25 Network Management 1994
SecureManager Manager For SecureDomain 1996
PrivaCy Manager Unified Management Platform 1997
ARL
CryptoServer Cryptographic Security Server As of 9/8/97
CryptoLAN Remote LAN access As of 9/8/97
CryptoKit Software Development Toolkit As of 9/8/97
Global Network Products Family. The Company entered the network
security market in 1986 to secure communications within WANs over private leased
lines. The SecureWAN product family is a complete line of link encryptors that
utilize Diffie-Hellman Public Key management techniques to support conventional
encryption algorithms, such as the data encryption standard ("DES") and its
improved version, known as Triple DES.
Depending on the product model, the Company's CIDEC and SecureLink
encryptors operate at varying data rates over private and public networks and
support most widely used data link protocols. The Company's original CIDEC line
of data encryption products is available in a number of models that range from
high speed T1 and T3 data transfer rates (1.54 Mbps and 45 Mbps, respectively)
to low speed transfer rates (1200 bits per second to 256 kilobits per second
("kbps"). The Company believes that its CIDEC-VHS/VHX products are the fastest
data link encryptors commercially available in the world today.
To support its customers who deploy their WANs over shared, public
networks, the Company also developed packet encryptors which enable secure
transmission of packets of data between two points in X.25 and Frame Relay based
networks. The Company's high speed SecureX25H and low speed SecureX25L offer
encryption for public switched packet networks based on X.25 packet transmission
technology and support data rates up to 64 kbps and up to 512 virtual circuits.
The Company's SecureFrame product is designed to operate as a dedicated Frame
Relay encryptor capable of operations on any public or private Frame Relay-based
network. The SecureFrame is designed to support data rates of up to 2.048 Mbps
and up to 1,024 user addresses.
Enterprise Security Products Family. With the acquisition of ARL, the
Company broadened its remote access solutions to include the PrivateWire family
of TCP/IP based software, component libraries, smart card tokens, and easily
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deployed card readers. The PrivateWire family of components includes a toolkit
for integrating all of the PrivateWire products with customers' existing
applications.
PrivateWire provides low cost, premium security services for
authorization management and remote access, as well as a comprehensive security
infrastructure, over TCP/IP communications including WWW, FTP, Telnet, e-mail
and any TCP/IP client/server application. Security is provided at the
application as well as the communications level. Application-level security
allows for digital signing of sensitive transactions, reciprocal authentication
is established using Public Key cryptography, and communications are encrypted
using one-time session keys.
PrivateWire is transparent to the organization and the end-user. No
specific proxies need to be configured, defined or publicized and, because
PrivateWire supports any Winsock application, no integration or changes to
applications are required. Users are controlled, managed and logged at the
network gateway. Changes to security policy can be easily configured and defined
from local or remote locations by any authorized manager using a standard web
browser, such as Microsoft IE, Netscape Navigator, or the Company's PrivaCy
Manager.
PrivateCard, developed by ARL, is the advanced, electronic smart card
in the PrivateWire family which has a complete, on-board Public Key processor
which, in combination with the remaining PrivateWire products, can serve as a
fully functional, secure personal token for authenticated and encrypted
transactions. PrivateSafe is ARL's latest smart card reader in the PrivateWire
family which is highly portable and simple to install by merely plugging in two
cables between the keyboard and the client computer. This patented, secure PIN
card reader transfers all Public Key operations onto PrivateCard's on board
processor.
The SecureDomain encryption unit and its network management system are
designed to provide packet-based security solutions which enable enterprises to
use the Internet as part of their own VPN by creating and controlling access to
groups within the network. Pursuant to its license from the Company, Cisco is
authorized to embed the SecureDomain cryptographic software modules in Cisco's
router products as part of Cisco's IOS operating system.
The SecureDomain product is a hardware device that resides between the
router and subnet in a LAN, and supports simultaneous secured TCP/IP and IPX
communications among networks and subnets. By securing the payload portion of
network traffic, SecureDomain is transparent to the network and user
applications. In addition, packet address information is left intact, allowing
traffic to flow over any public or private network without compromising network
performance.
The Company also developed its SecureGate and SecureTraveler products
to provide secure access for authorized remote and mobile users to their
corporate computing resources over the dial up, public switched telephone
network ("PSTN"). The SecureGate Server, which physically resides between the
customer's communications server and modems, can monitor and protect corporate
information resources by controlling incoming and outgoing calls to and from the
network. SecureGate provides centralized management and tracking of remote users
and their individual security profiles, with audit trails of all system
activities. SecureGate also acts as the certificate authority for its authorized
remote SecureTraveler clients.
SecureManager Family. The Company's latest SecureManager product,
branded PrivaCy Manager, consolidates the Company's existing security management
tools with a Java-based management platform designed for enterprise and global
networks. PrivaCy Manager remotely configures, monitors and performs firmware
downloads for some of the Company's network security products, including
SecureFrame, and SecureDomain. The Company intends to extend PrivaCy Manager's
management services to all of Cylink's enterprise security products, as well as
third party products which integrate the Company's management tools.
PrivaCy Manager's automated Public Key authentication procedures
prevent unauthorized products from masquerading as legitimate devices on the
network. With its graphical representation of the network's topology, and its
point-and-click interface, the network security structure can be easily
visualized, simplifying the tasks of configuring, modifying and managing the
network's security. Furthermore, PrivaCy Manager can implement a broad range of
security policies for determining access to network security devices. By
periodically polling each secure device, PrivaCy Manager maintains an audit
trail of network security activities, including administrator operations, user
logins, logouts, traps and alarms.
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ARL's Offerings. CryptoKit is a platform independent, software
development security kit for integrating ARL's security modules into customers'
existing network applications. CryptoKit serves either as a stand alone toolkit
for providing cryptographic services, or as a tool to upgrade the customer's
network by creating interoperability with the Company's products, such as
PrivateWire. CryptoServer is a cryptographic security server which provides data
security services, such as certificate authorization, for networked environments
handling large volumes of transactions. ARL also offers security solutions for
LAN remote access ("CryptoLAN"), PC to mainframe connections ("Crypto3270"),
laptops and PCs ("Diskrete"), e-mail ("CryptoMail") and files and messages
("CryptoCom"). Following the addition of ARL's products into the Company's
portfolio, the Company has realized some efficiencies in its own product
development by discontinuing development and support of certain other products
which are redundant with those of ARL.
The Company's future results of operations will be highly dependent on
the successful marketing and customer acceptance of the Company's latest
products, including both PrivaCy Manager and PrivateWire. To date, the Company
has made only modest shipments of such products. No assurance can be given that
these products will not require additional development work, enhancement,
testing or further refinement before they can be introduced and made
commercially available by the Company or that they will achieve market
acceptance. If such new and recently introduced products have performance,
reliability, quality or other shortcomings, then such products could fail to
achieve market acceptance and the Company may experience reduced orders, higher
manufacturing costs, delays in collecting accounts receivable and additional
warranty and service expenses, which in each case could have a material adverse
effect on the Company's financial condition and results of operations. See
"Business - Risk Factors That May Affect Future Results -- Dependence on
Recently Introduced and New Network Security Products, and - Product Liability
Risks."
Sales, Marketing and Customer Support
The Company markets its network security products primarily through its
direct sales force and, to a lesser extent, through distributors. The Company's
direct sales force for its network security products operates primarily from the
Company's headquarters in Sunnyvale, California and from three sales offices in
the United States. The Company's sales force, engineers and technical personnel
must work closely with customers in order to determine system security and
network configurations that meet the customers' needs.
International sales of network security products are made primarily
through the Company's five foreign sales offices and numerous distributors. The
Company does not have long-term contractual relationships with any of its
distributors and, therefore, has no assurance of a continuing relationship
within a given market.
To date, the majority of the Company's customers for its network
security products have been Fortune 1000 companies, financial institutions,
government agencies and telecommunication carriers who rely on the Company's
Global Network Products to encrypt and secure their WANs operating over private
leased lines. From inception through December 31, 1997, the Company sold over
$173 million of network security products in the United States and abroad. In
1997, fifteen customers accounted for approximately 56% of the Company's sales
of its network security products, and two customers accounted for approximately
20% of such sales.
A representative list of the end users of the Company's network
security products is set forth below:
Fortune 1000 Financial Government Telecommunications
Companies Institutions Agencies Carriers
- ----------------- --------------- --------------------- ---------------
Boeing Bank of America Department of Defense AT&T
Caterpillar Bank of China Department of Justice Bell Atlantic
Computer Sciences Bankers Trust Department of Treasury MCI
IBM Citibank Federal Reserve Bank Pacific Bell
Lockeed Martin Credit Suisse Internal Revenue Service Sprint
Motorola Deutsche Bank
Lloyds Bank
S.W.I.F.T
Swiss Bank
The Company believes that customer support is essential to developing
and maintaining good relationships with its customers. Cylink's support
personnel are responsible for providing installation, technical training,
technical support,
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on-site support and repair services. The Company sells end users a number of
different levels of support, maintenance and service options, including extended
warranties, emergency replacement services, product upgrades and on-site
support.
The Company offers service and support for its network security
products from its headquarters and from service and support centers in New
Jersey, the United Kingdom, Brussels, Israel and Singapore. Telephone support is
available twenty-four hours per day, seven days per week, through a toll-free
hotline.
Wireless Communications Product Line
During 1995, 1996, and 1997 sales of Wireless products accounted for
approximately 38%, 50%, and 37%, respectively, of the Company's revenue,
including discontinued operations. The Wireless Communications Group completed
its formation of an independent organization in 1997, including order entry,
sales and marketing, engineering services and technical publications, as well as
opening service centers in Beijing and New Dehli. On March 28, 1998, the Company
sold all of the assets comprising its Wireless Communications Group to P-Com,
Inc., a Delaware Corporation located in Campbell, California, for a total
consideration of $60.5 million, subject to final closing adjustments, consisting
of $46.0 million in cash and a promissory note in the amount of $14.5 million
due 100 days after closing. Pursuant to the restatement referred to in Note 2 of
the Notes to Consolidated Financial Statements included elsewhere in this Form
10-K, certain revenues of Wireless previously recognized in the fourth quarter
of 1997 and the first quarter of 1998 were adjusted. Based on the net assets of
Wireless as of March 28, 1998, after restatement, the sales proceeds would have
been approximately $58.4 million resulting in a note receivable of approximately
$12.4 million (a reduction of $2.1 million in the initial note receivable).
Research and Development
The Company's research and development efforts are focused on
developing new products, core technologies and enhancements to existing
products. For its network security products, the Company's research and
development strategy has in recent periods focused on the development of modular
software and hardware products that can be readily integrated and adapted to the
changing standards and requirements of the communications and internetworking
industries. A focus of the Company's research and development efforts in 1997
has been the development of the SecureLink and PrivaCy Manager, as well as
integration of PrivateWire and ARL technologies into the Company's product
portfolio. The Company expects that it will continue to devote substantial
research and development resources to the enhancement of PrivaCy Manager and
ARL's products for the foreseeable future.
In 1995, 1996 and 1997, the Company's gross research and development
expenses from continuing operations were $9.2 million, $14.3 million and $13.9
million, respectively. From time to time, the Company receives engineering
funding for development projects to apply or enhance the Company's technology to
a particular customer's need. The amount recognized under these research and
development contracts are offset against research and development expense.
Amounts recognized under non-recurring engineering contracts totaled $1.1
million, $6.1 million and $1.4 million, in 1995, 1996 and 1997, respectively.
The Company believes that its ability to attract and retain qualified
development personnel is essential to the success of its development programs in
the United States and Israel. The market for such personnel is highly
competitive and the Company's development activities could be adversely affected
if the Company is unsuccessful in attracting and retaining skilled technical
personnel. See "Business - Risk Factors That May Affect Future Results --
Dependence on Key Personnel, and -- Management of Growth." In addition, the
markets for the Company's products are characterized by rapidly changing
technologies, extensive research and new product introductions.
The Company believes that its future success will depend in part upon
its ability to continue to enhance its existing products and to develop and
introduce new products. As a result, the Company expects to continue to make a
significant investment in engineering, research and development. There can be no
assurance that the Company will be able to develop and introduce new products or
enhancements to its existing products in a timely manner which satisfy customer
needs, achieve market acceptance or address technological changes in its target
markets. The failure of the Company to develop products and introduce them in a
timely manner could adversely affect the Company's competitive position,
financial condition and results of operations. See "Business - Risk Factors That
May Affect Future Results -Competition, -- Dependence on Recently Introduced and
New Network Security Products, -Evolving Network Security Market, -- Rapid
Technological Change, and -- Wireless Communications Industry Regulatory
Environment."
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Regulatory Matters
The Company's network security products developed or manufactured in
the United States are subject to the export control laws of the United States
and regulations promulgated by the U.S. Department of Commerce. Certain
technical restrictions applied by the Commerce Department affect the type and
functionality of the products which may be exported. Furthermore, interpretation
of and compliance with these licensing regulations are clouded by disagreements
within and between the United States legislative and administrative branches
concerning their application to encryption technology. These disagreements tend
to delay and interfere with the predictability of the licensing process for the
Company's products. In addition, these United States export laws prohibit the
export of encryption products to a number of hostile countries. Similar export
control laws also apply to the Company's products and technology distributed by
ARL in Israel.
Although to date the Company has been able to secure the necessary
export licenses to compete effectively in the international market, there can be
no assurance that the Company will continue to be able to secure such licenses
in a timely manner in the future, or at all. In certain foreign countries, the
Company's distributors are required to secure licenses or formal permission
before encryption products can be imported. To date, except for certain limited
cases, the Company's distributors have not been denied permission to import the
Company's products. See "Business - Risk Factors That May Affect Future Results
- -- Risks Associated with International Sales; Reliance Upon Local Partners;
Restrictions on Export."
Backlog
Orders for the Company's products are usually placed by customers on an
as-needed basis and the Company has typically been able to ship products within
thirty days after the customer submits a firm purchase order. The Company's
backlog consists of all orders received, regardless of the anticipated shipping
date. Because of the possibility of customer changes in delivery schedules or
cancellation of orders, the Company's backlog as of any particular date may not
be indicative of sales in any future period. The Company does not generally
maintain long-term contracts with its customers that require customers to
purchase the Company's products. The Company's backlog for continuing operations
as of December 31, 1996 and 1997 was approximately $4.1 million and $5.7
million, respectively. See "Business - Risk Factors That May Affect Future
Results -- Lengthy Sales Cycle."
Manufacturing
The Company's manufacturing operations consist primarily of component
procurement, final assembly and test, and quality control of subassemblies and
systems. The Company generally uses domestic independent contractors to
manufacture and assemble printed circuit boards. The manufacturing process
enables the Company to configure the hardware and software in combinations to
meet a wide variety of customer requirements. The Company installs its software
into the electronically programmable read only memory of its products to
maintain quality control and security, and performs "burn-in" procedures and
functional tests, as well as comprehensive inspections to assure the quality and
reliability of its products.
The Company's product designs are proprietary but generally incorporate
industry-standard algorithms and hardware components. However, certain
semiconductor devices, electronic components and subassemblies are presently
purchased from sole source suppliers. Certain other components are presently
available or acquired from only a limited number of suppliers.
The Company's ability to timely deliver its products is dependent upon
the availability of quality components and subsystems used in these products.
The Company depends in part upon subcontractors to manufacture, assemble and
deliver certain items in a timely and satisfactory manner. A significant
interruption in the delivery of such items could have a material adverse effect
on the Company's results of operations. See "Business - Risk Factors That May
Affect Future Results -- Dependence on Component Availability, Subcontractor
Performance and Key Suppliers."
Employees
As of December 31, 1997, the Company had 432 employees, of whom 140
were primarily engaged in research and development, 165 in sales, marketing and
related customer support services, 42 in administration and 85 in manufacturing.
Of these employees approximately 23 were located in Europe, 55 in Israel, and 10
in Asia. None of the
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Company's employees are represented by a collective bargaining agreement with
respect to his or her employment by the Company, nor has the Company experienced
any organized work stoppage. The Company considers its relations with its
existing employees to be good. As part of the March 28, 1998 sale of the
Company's Wireless Communications Group to P-Com Inc., the Company expects
approximately 100 employees to terminate their employment with Cylink.
Year 2000
The Company's customer service organization is engaged in an ongoing
review of the Company's products to determine which products are susceptible to
malfunction when processing dates which are later than December 31, 1999 ("Y2K
Errors"). With respect to those products which are no longer within the term of
the Company's standard warranty and vulnerable to Y2K Errors, the Company will
offer upgrade kits or trade-ins for comparable products which are free from Y2K
Errors. In the meantime, with respect to products which are vulnerable to Y2K
Errors, the Company is reworking its products to cure any Y2K Errors, or
declaring such products at the end of life ("EOL") with the intention of
discontinuing their sale prior to December 31, 1998.
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RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
Recent Losses; Potential Fluctuations in Operating Results, Future Operating
Results Uncertain.
The Company incurred losses from continuing operations in 1994, 1995,
1996 and 1997. There can be no assurances that the Company will increase or
maintain its revenue or be profitable on a quarterly or an annual basis in the
future.
The Company has historically experienced significant fluctuations in
its operating results on an annual and a quarterly basis and could experience
such fluctuations in the future. The Company's operating results are affected by
a number of factors, many of which are outside of the Company's control,
including: the timing of the introduction of new or enhanced products by the
Company or its competitors; market acceptance of new products of the Company,
its customers and its competitors; the timing, cancellation or delay of customer
orders, including cancellation or delay in anticipation of new product
introduction or enhancement or resulting from uncertainty relating to
intellectual property claims; competitive factors, including pricing pressures;
changes in operating expenses, including those resulting from changes in
available production capacity of independent foundries and other suppliers and
the availability of raw materials; expenses associated with obtaining, enforcing
and defending claims with respect to intellectual property rights; the mix of
products sold; changes in the percentage of products sold through the Company's
direct sales force; personnel changes; general economic conditions; and
fluctuations in foreign currency exchange rates. The Company expects to
introduce a number of new products in 1998. The failure of such new products to
achieve market acceptance at the time anticipated by the Company, or at all,
would materially and adversely affect the Company's financial condition and
results of operations.
Pending Litigation
See Item 3. "Legal Proceedings."
Dependence on Key Personnel
On November 13, 1996, the Company announced the appointment of Fernand
B. Sarrat as President and Chief Executive Officer ("CEO") and during the first
half of 1997 the Company hired a number of executives to fill senior management
positions within the Company.
The Company's future success will depend on the abilities of Mr. Sarrat
and the contributions by its executive officers, key management and technical
personnel. The loss of the services of one or more of the Company's executive
officers or key personnel, or the inability to continue to attract qualified
personnel, could delay product development cycles or otherwise have a material
adverse effect on the Company's business and operating results.
Lengthy Sales Cycle
Sales of the Company's products generally involve a significant
commitment of capital by customers, with the attendant delays frequently
associated with large capital expenditures. For these and other reasons, the
sales cycle associated with the Company's products is typically lengthy and
subject to a number of significant risks over which the Company has little or no
control. The Company is often required to ship products shortly after it
receives orders and consequently, order backlog at the beginning of any period
has in the past represented only a small portion of that period's expected
revenue. As a result, product revenue in any period is substantially dependent
on orders booked and shipped in that period. The Company typically plans its
production and inventory levels based on internal forecasts of customer demand,
which is highly unpredictable and can fluctuate substantially. If revenue falls
significantly below anticipated levels, the Company's financial condition and
results of operations would be materially and adversely affected. In addition,
the Company's operating expenses are based on anticipated revenue levels and a
high percentage of the Company's expenses are generally fixed in the short term.
Based on these factors, a small fluctuation in the timing of sales can cause
operating results to vary significantly from period to period. In addition, it
is possible that in the future the Company's operating results will be below the
expectations of securities analysts and investors. In such an event, or in the
event that adverse conditions prevail or are perceived to prevail generally or
with respect to the Company's business, the price of the Company's Common Stock
would likely be materially adversely affected.
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Dependence on Recently Introduced and New Network Security Products
The Company's future results of operations will be highly dependent on
the successful completion of the design, development, introduction, marketing
and manufacture of the PrivateWire and PrivaCy Manager products, portions of
which are under development, and the SecureLink, SecureFrame and SecureDomain
products, which were recently introduced. To date, the Company has made only
limited commercial shipments of certain of such products and no commercial
shipments of the remainder of such products. No assurance can be given that any
of such products will not require additional development work, enhancement,
testing or further refinement before they can be introduced and made
commercially available by the Company or that they will achieve market
acceptance. If such new and recently introduced products have performance,
reliability, quality or other shortcomings, then such products could fail to
achieve market acceptance and the Company may experience reduced orders, higher
manufacturing costs, delays in collecting accounts receivable and additional
warranty and service expenses, which in each case could have a material adverse
effect on the Company's financial condition and results of operations.
Competition
Competition is intense among providers of network security systems, and
the Company expects such competition to increase in the future. Significant
competitive factors in these markets include the development of new products and
features, product quality and performance, the quality and experience of sales,
marketing and service organizations, product price and name recognition. Many of
these factors are beyond the Company's control.
The Company's competitors in the network security markets, including
companies which offer products similar to or as an alternative to the Company's
products, include Axent Technologies, Inc., Checkpoint Software Technologies,
Ltd., Network Associates, Inc., Secure Computing Corporation, Security Dynamics
Technologies, Inc., Racal-Guardata, Inc., and Information Resource Engineering,
Inc. In addition, Northern Telecom Limited, AT&T, Motorola Corporation, Digital
Equipment Corporation and Sun Microsystems, Inc. offer certain network security
products as part of their overall networking solutions. A number of significant
vendors, including Microsoft Corporation, Netscape Communications Corporation
and Cisco Systems, Inc. have embedded security solutions in their software. To
the extent that these embedded or optional security capabilities provide all or
a portion of the functionality provided by the Company's products, the Company's
products may no longer be required by customers to attain network security.
Certicom Corporation and RSA Data Security, Inc., a subsidiary of
Security Dynamics, ("RSA DSI") license various methods of implementing Public
Key cryptography, including some that are different than (and incompatible with)
the methods of implementing Public Key cryptography currently used by the
Company in most of its products. Although the Company has licenses to use all of
the Public Key methods promoted by Certicom and RSA DSI, to the extent
significant segments of the network security market adopt technical standards
different than those currently used by the Company, to the exclusion of the
Company's methods, sales of the Company's existing and planned products in that
market segment may be adversely impacted, which could have a material adverse
effect on the Company's financial condition and results of operations.
Many of the Company's competitors have substantially greater financial,
technical, marketing, distribution and other resources, greater name recognition
and longer standing relationships with customers than the Company. Competitors
with greater financial resources are better able to engage in sustained price
reductions in order to gain market share. Any period of sustained price
reductions would have a material adverse effect on the Company's financial
condition and results of operations. There can be no assurance that the Company
will be able to compete successfully in the future or that competitive pressures
will not materially and adversely affect the Company's financial condition and
results of operations.
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Product Liability Risks
Customers rely on the Company's network security products to prevent
unauthorized access to their networks and data transmissions. A malfunction or
the inadequate design of the Company's products could result in tort or warranty
claims. Although the Company attempts to reduce the risk of such losses through
warranty disclaimers and liability limitation clauses in its sales and license
agreements and by maintaining product liability insurance, there can be no
assurance that such measures will be effective in limiting the Company's
liability for any such damages. Any liability for damages resulting from
security breaches could be substantial and could have a material adverse effect
on the Company's business and results of operations.
In addition, a well-publicized actual or perceived security breach
could adversely affect the market's perception of security products in general,
or the Company's products in particular, regardless of whether such breach is
attributable to the Company's products. This could result in a decline in demand
for the Company's products, which would have a material adverse effect on the
Company's financial condition and results of operations.
Year 2000
Although the Company believes it has identified all risks of Y2K Errors
in its products, and is taking steps to repair, replace or EOL all products
which contain Y2K Errors, there is a continuing risk that some Y2K Errors will
go undetected until after December 31, 1999. The Company intends to attempt to
protect itself from liability with appropriate disclaimers in its terms and
conditions of sale, by encouraging customers to upgrade their products to those
which have proven to be Y2K compliant, and by discouraging continued use of
those products known to have Y2K Errors. However, the Company may be met with an
unanticipated liability for an undiscovered Y2K Error which can not be limited
by any of the foregoing preventive actions, and conceivably could include an
allegation of damages which exceeds the terms or the amount of the Company's
policies of insurance covering product liability.
Management of Growth And Reduction In Employees
The Company has recently experienced and may continue to experience
substantial growth in the number of its employees and the scope of its
operations, resulting in increased responsibilities for management. To manage
growth effectively, the Company will need to continue to improve its
operational, financial and management information systems and to hire, train,
motivate and manage a growing number of employees. Competition is intense for
qualified technical, marketing and management personnel, particularly highly
skilled engineers. In particular, the current availability of qualified
engineers is quite limited, and competition among companies, academic
institutions, government entities and other organizations for skilled and
experienced engineering personnel is very intense. The Company has experienced
delays in filling positions for engineering personnel and the Company expects to
experience continued difficulty in filling its needs for qualified engineers and
other personnel. There can be no assurance that the Company will be able to
effectively achieve or manage any future growth, and its failure to do so could
delay product development cycles or otherwise have a material adverse effect on
the Company's financial condition and results of operations.
With the sale of its Wireless Communications Group, the Company will
also experience a significant reduction in employees, including the Company's
Chief Technical Officer, Dr Jim Omura. The sale of the Company's Wireless
Communications Group, along with occasional reductions in specific engineering
programs in the network security business, may create a risk of instability
within the existing employee population resulting in departures of key employees
critical to sustaining growth in the Company's network security business.
Furthermore, sudden reductions in the number of the Company's employees places
greater demands on the remaining employees which may distract them from
fulfilling their responsibilities necessary to accomplishing the Company's
financial goals.
On September 8, 1997, the Company acquired ARL and assumed
responsibility for management of its worldwide operations and fifty-seven
employees. The Company is heavily dependent on ARL's success in continuing to
develop marketable technology and products, such as the PrivateWire family,
including PrivateSafe and PrivateCard, toolkits and other components. Key
factors which will determine ARL's success include whether the Company can
integrate ARL's management, employee culture and organizational practices into
the Company, whether the Company can provide ARL with appropriate guidance in
allocating its development priorities, whether the Company can adequately fund
ARL's development objectives, whether the Company can provide accurate
information for ARL to focus its technology on significant market opportunities,
and whether the Company can predict the most attractive features and functions
for ARL's finished products. The Company's success in realizing the anticipated
return from its investment in ARL also will
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be determined by the Company's ability to position and introduce ARL's products
into the Company's markets and channels, and the Company's ability to provide
adequate sales and customer support for ARL's products. The Company's and ARL's
successful working relationship may be hindered significantly by differences
between the two organizations created by time, distance, language and culture.
ARL operates from its principal offices in Israel, a country which is
vulnerable to disruption due to the sudden outbreak of hostilities with its
neighbors and various indigenous factions. Many of ARL's employees have
extensive commitments to the country's military organizations which may require
a loss of their services on the Company's behalf in times of political
instability.
Intellectual Property and Other Proprietary Rights
The Company relies on patents, trademarks, copyrights, licenses and
trade secret law to establish and preserve its intellectual property rights. The
Company owns six U.S. patents covering certain aspects of its network security
product designs, and has additional U.S. patent applications pending. There can
be no assurance that any patent, trademark, copyright or license owned or held
by the Company will not be invalidated, circumvented or challenged, that the
rights granted thereunder will provide competitive advantages to the Company or
that any of the Company's pending or future patent applications will be issued
with the scope of the claims sought by the Company, if at all. Further, there
can be no assurance that others will not develop technologies that are similar
or superior to the Company's technology, duplicate the Company's technology or
design around the patents owned by the Company. The Company may be subject to or
may initiate interference proceedings in the U.S. Patent Office, which can
require significant financial and management resources. In addition, the laws of
certain countries in which the Company's products are or may be developed,
manufactured or sold may not protect the Company's products and intellectual
property rights to the same extent as the laws of the United States. The
inability of the Company to protect its intellectual property adequately could
have a material adverse effect on its financial condition and results of
operations.
The computer, communications, software and network security industries
are characterized by substantial litigation regarding patent and other
intellectual property rights. From time to time, the Company has received
communications from third parties asserting that the Company's patents, features
or content of certain of the Company's products infringe upon the intellectual
property rights held by third parties, and the Company may receive such
communications in the future. There can be no assurance that third parties will
not assert claims against the Company that result in litigation. Any litigation,
whether or not determined in favor of the Company, could result in significant
expense to the Company and could divert management and other resources. In the
event of an adverse ruling in any litigation involving intellectual property,
the Company might be required to discontinue the use of certain processes, cease
the manufacture, use and sale of infringing products, expend significant
resources to develop non-infringing technology or obtain licenses to the
infringing technology and may suffer significant monetary damages, which could
include treble damages. There can be no assurance that under such circumstances
a license would be available to the Company on reasonable terms or at all. In
the event of a successful claim against the Company and the Company's failure to
develop or license a substitute technology on commercially reasonable terms, the
Company's financial condition and results of operations would be adversely
affected. There can be no assurance that existing claims or any other assertions
(or claims for indemnity from customers resulting from infringement claims) will
not materially and adversely affect the Company's financial condition and
results of operations.
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Evolving Network Security Market
The market for the Company's network security products is still
emerging. This market is characterized by rapidly changing technology, emerging
industry standards, new product introductions and changes in customer
requirements and preferences. The Company's future success will depend in part
upon end users' demand for network security products in general, and upon the
Company's ability to enhance its existing products and to develop and introduce
new products and technologies that meet customer requirements. Any significant
advance in technologies for attacking cryptographic systems could render some or
all of the Company's existing and new products obsolete or unmarketable. To the
extent that a specific method other than the Company's is adopted as the
standard for implementing network security in any segment of the network
security market, sales of the Company's existing and planned products in that
market segment may be adversely impacted, which could have a material adverse
effect on the Company's financial condition and results of operations. There can
be no assurance that network security-related products or technologies developed
by others will not adversely affect the Company's competitive position or render
its products or technologies noncompetitive or obsolete.
In addition, a portion of the sales of the Company's network security
products will depend upon a robust industry and infrastructure for providing
access to public switched networks, such as the Internet. There can be no
assurance that the infrastructure or complementary products necessary to make
these networks into viable commercial marketplaces will be developed, or, if
developed, that these networks will become viable commercial marketplaces.
Rapid Technological Change
The markets for the Company's products are characterized by rapidly
changing technologies, extensive research and new product introductions. The
Company believes that its future success will depend in part upon its ability to
continue to enhance its existing products and to develop, manufacture and market
new products. As a result, the Company expects to continue to make a significant
investment in engineering, research and development. There can be no assurance
that the Company will be able to develop and introduce new products or
enhancements to its existing products in a timely manner which satisfy customer
needs, achieve market acceptance or address technological changes in its target
markets. The failure of the Company to develop products and introduce them
successfully and in a timely manner could adversely affect the Company's
competitive position, financial condition and results of operations.
Risks Associated with International Sales; Reliance Upon Local Partners;
Restrictions on Export
The Company plans to continue to expand its foreign sales channels and
to enter additional international markets, both of which will require
significant management attention and financial resources. International sales
are subject to a number of risks, including unexpected changes in regulatory
requirements, tariffs and other trade barriers, political and economic
instability in foreign markets, difficulties in the staffing, management and
integration of foreign operations, longer payment cycles, greater difficulty in
collecting accounts receivable, currency fluctuations and potentially adverse
tax consequences. Since most of the Company's foreign sales are denominated in
U.S. dollars, the Company's products become less price competitive in countries
in which local currencies decline in value relative to the U.S. dollar. The
uncertainty of monetary exchange values has caused, and may in the future cause,
some foreign customers to delay new orders or delay payment for existing orders.
The long-term impact of such devaluation, including any possible effect on the
business outlook in other developing countries, cannot be predicted.
The Company's ability to compete successfully in foreign countries is
dependent in part on the Company's ability to obtain and retain reliable and
experienced in-country distributors and other strategic partners. The Company
does not have long-term relationships with any of its distributors and,
therefore, has no assurance of a continuing relationship within a given market.
Due to U. S. government regulations restricting the export of
cryptographic devices, including certain of the Company's network security
products, the Company may be at a disadvantage in competing for international
sales compared to companies located outside the United States that are not
subject to such restrictions.
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Dependence on Component Availability, Subcontractor Performance and Key
Suppliers
The Company's ability to timely deliver its products is dependent upon
the availability of quality components and subsystems used in these products.
The Company depends in part upon subcontractors to manufacture, assemble and
deliver certain items in a timely and satisfactory manner. The Company obtains
certain components and subsystems from single, or a limited number of, sources.
A significant interruption in the delivery of such items could have a material
adverse effect on the Company's financial condition and results of operations.
ITEM 2. PROPERTIES
The Company's headquarters occupies 86,000 square feet in Sunnyvale,
California, the lease for which expires in June 1999. During the second quarter
of 1996, the Company signed a five-year lease agreement for approximately 35,000
square feet of office and manufacturing space, also in Sunnyvale. As a result of
the acquisition of ARL, the Company owns, subject to outstanding mortgage, a
7,500 square foot office building in Givat-Shmuel, Israel and leases a
production facility of 2,000 square feet. The Company leases facilities for
sales offices in New Jersey, Virginia, North Carolina, Belgium, the United
Kingdom, Singapore, and Germany. The Company believes that its current
facilities are well maintained and are adequate for the foreseeable future and
that suitable additional or alternative space will be available in the future on
commercially reasonable terms as needed.
ITEM 3. LEGAL PROCEEDINGS
On September 6, 1995, the Company obtained an arbitration award
dissolving a former partnership, known as Public Key Partners ("PKP"), between
the Company's wholly-owned subsidiary, Caro-Kann Corporation, and RSA DSI.
Although various claims between the Company and RSA DSI were settled on December
31, 1996, a third party continues to pursue various claims against PKP and RSA
DSI for wrongful business practices in action C-94-20512 SW before the United
States District Court for the Northern District of California. A summary
judgement favorable to PKP was entered on August 29, 1997, and the matter has
been appealed by the plaintiff to the United States Court of Appeals for the
Federal Circuit. In the event the judgement of the district court is reversed,
an unfavorable outcome at trial might affect the residual value of the Company's
interest in PKP.
On March 7, 1997, ten former employees of the Company filed suit in
action No. CV764647 in the Superior Court of California, County of Santa Clara,
against the Company, each of its Directors and its General Counsel, asserting
claims for wrongful termination, fraud, libel, slander, age discrimination,
invasion of privacy, and violation of the federal RICO statute. On July 11,
1997, an eleventh employee filed suit in action No. CV767448 in the Superior
Court of California, County of Santa Clara, alleging similar claims against the
Company and its Chief Executive Officer. The Company removed CV764647 to the
Federal District Court for the Northern District of California and, after the
Company obtained an order dismissing certain of the plaintiffs' claims,
including the claims of libel and RICO violations, the Court remanded the action
back to Santa Clara Superior Court. Following the remand, the Company then
obtained an order consolidating CV764647 with CV767448 for purposes of discovery
and trial. Both matters are currently in the discovery phase, with trial
scheduled for December 1998. Although the Company has placed its insurers on
notice of these claims, all of its insurers have reserved their rights and
defenses under their policies, and the extent of the insurers' liability under
their respective policies is undetermined. The Company believes the terminations
were lawful, in the best interests of the Company and intends to defend the
matter vigorously. The defense of this matter may divert a material amount of
management's attention and require the expenditure of significant legal fees and
costs. An unfavorable outcome which exceeds the Company's insurance coverage, if
any, may also result in a material adverse effect on the Company's financial
condition.
17
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders, through
solicitation of proxies or otherwise, during the fourth quarter of the fiscal
year covered by this report.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information concerning the executive
officers of the Company as of December 31, 1997:
Name Age Position
- ---- --- --------
Fernand Sarrat 46 Director, Chief Executive Officer and
President
John H. Daws 54 Vice President and Chief Financial Officer
Robert B. Fougner 45 Secretary and General Counsel
Thomas Butler 50 Senior Vice President Sales and Marketing
Sarah L. Engel 54 Vice President, Human Resources and
Organizational Development
John Kalb 50 Vice President, Business Development
Paul Massie 43 Vice President, Information Systems
Peter J. Slocum 42 Vice President, Engineering
Reed B. Byrum 49 Vice President, Communications
William P. Crowell 57 Vice President, Product Development and
Strategy
Mr. Sarrat joined the Company as Chief Executive Officer and President
in November 1996. Prior to joining the Company, Mr. Sarrat was with IBM
Corporation for over 20 years, most recently as General Manager of Networking
Computing Marketing & Services, and held such other positions as General Manager
of the Networked Application Services Division, the Assistant General Manager of
Marketing and Business Development, and General Manager of Marketing & Services
in the Midwest.
Mr. Daws joined the Company as Vice President and Chief Financial
Officer in September 1995. From April 1992 to August 1995, he was Vice President
and Chief Financial Officer of Crosspoint Solutions, Inc., a software and
semiconductor company, and from June 1988 to December 1991 he was Vice
President, Finance of Rolm Computer Corporation, a software and computer company
and a subsidiary of Loral Corporation.
Mr. Fougner has been Secretary and General Counsel since joining the
Company in December 1989. Prior to joining the Company, he was a partner in the
New York law firm of Hill, Betts & Nash.
Mr. Butler joined the Company in April 1997 as Senior Vice President of
Sales and Marketing. Prior to joining the Company he served as group vice
president of sales and marketing for electronic commerce for Sterling Software.
Prior to his work at Sterling, he was a senior vice president of sales and
marketing at Bank Automation Systems.
Ms. Engel joined the Company in February 1997. Before joining the
Company she was an independent consultant specializing in strategic planning,
human resources and organizational development with such clients as Ford Motor
Company, The Coca-Cola Company, Exxon Corporation and Harcourt General, Inc.,
among others.
Mr. Kalb joined the Company in January 1997. Prior to joining the
Company, he was with IBM Corporation for over 25 years, most recently as Vice
President of Electronic Commerce, Internet Division, responsible for marketing,
software development and operations relating to IBM's offerings for enabling
commerce over the Internet.
Mr. Massie joined Cylink in 1997. Prior to joining the Company in 1997,
he was the director of information systems at Bay Networks. He has also served
as director of computing for Sun Microsystems, Inc. and as director of computer
systems and telecommunications for Sterling Software.
18
<PAGE>
Mr. Slocum joined the Company in February 1997. From July 1993 to
February 1997 he served as Vice President of Engineering for Octel
Communications Corporation, a provider of voice messaging systems and services.
Mr. Slocum served as Director of Engineering for Silicon Graphics, Inc., a
computing systems company, from July 1992 to July 1993 and MIPS Computer
Systems, Inc. (merged with Silicon Graphics, Inc. in July 1992) from August 1990
to July 1992
Mr. Byrum joined the Company as Vice President, Communications in
January 1998. Prior to joining the Company, Mr. Byrum held positions or provided
services to GE Capital, Measurex, Gannett, N.E.T., The Johns Hopkins University,
and Ruder Finn & Rotman..
Mr. Crowell joined the company as Vice President, Product Development
and Strategy in January 1998. Prior to joining the Company, Mr Crowell served as
the Deputy Director at the National Security Agency, and has also served as Vice
President of the Atlantic Aerospace Electronics Corporation.
19
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS
The Company's Common Stock has been traded in the over-the-counter
market under the symbol CYLK since the Company's initial public offering on
February 15, 1996. The following table sets forth the high and low closing
prices as reported on the Nasdaq National Market during the last two years:
First Second Third Fourth
Quarter Quarter Quarter Quarter
------- ------- ------- -------
Fiscal 1997
High 13 5/8 12 1/4 15 5/16 17 1/2
Low 8 3/8 7 1/2 8 13/16 8 13/32
Fiscal 1996
High 26 1/4 23 1/2 17 1/2 15 1/16
Low 17 17 9 13/16 10 15/16
As of March 13, 1998, the Company had approximately 136 shareholders of
record. The Company has never declared or paid dividends on its capital stock.
The Company currently intends to reinvest its earnings in the development of its
business and does not intend to pay dividends in the foreseeable future.
The Company's Registration Statement Form S-1 was declared effective by
the Securities and Exchange Commission on February 15, 1996 (Reg. No. 33-80719).
In February and March 1996 the Company issued 5,750,000 shares of its common
stock to the public at a price of $15 per share. The Company received
approximately $78.9 million net of underwriting discounts and commissions of
$6.0 million and other offering expenses of $1.4 million. Through the period
ended December 31, 1997, the net proceeds have been used as follows (in
thousands):
Purchase and installation of equipment $ 6,601
Acquisition of Algorithmic Research 45,913
Repayment of indebtedness 1,000
Working capital 12,673
Temporary investment in money market accounts 12,677
-------
$78,864
=======
None of the net proceeds or expenses of issuance and distribution of
the securities have been, either directly or indirectly, paid to or invested
with any related party or shareholder of the Company.
20
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
<TABLE>
The following selected financial information has been derived from the
Company's audited consolidated financial statements. The information set forth
below is not necessarily indicative of results of future operations and is
qualified by reference to and should be read in conjunction with the
consolidated financial statements and related notes thereto and Management's
Discussion and Analysis of Financial Condition and Results of Operations
included elsewhere herein.
<CAPTION>
Year ended December 31,
--------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(restated)
(in thousands, except per share amounts)
<S> <C> <C> <C> <C> <C>
Revenue $ 47,690 $ 25,793 $ 21,534 $ 17,971 $ 21,373
Research and development expense, net 12,488 8,198 8,142 7,275 4,611
Income (loss) from continuing operations (64,955) (5,522) (4,260) (4,143) 1,481
Income (loss) from continuing
operations per share - basic (2.43) (0.23) (0.24) (0.24) 0.08
Income (loss) from continuing
operations per share - diluted $ (2.43) $ (0.23) $ (0.24) $ (0.24) $ 0.08
Year ended December 31,
--------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(restated)
(in thousands)
Cash, cash equivalents and
short-term investments $ 22,977 $ 78,849 $ 6,098 $ 6,626 $ 7,193
Working capital 47,282 93,518 12,604 12,042 14,057
Total assets 79,031 107,088 22,725 20,663 19,777
Long-term obligations 256 241 291 -- --
Shareholders' equity $ 66,134 $ 97,211 $ 14,605 $ 14,149 $ 15,481
</TABLE>
On March 28, 1998, the Company sold its Wireless Communications Group
and, therefore, the above consolidated statements of operations information
excludes this business for all periods.
Net income for 1997 included a charge of approximately $63.9 million
($2.39 per share) for purchased in-process technology resulting from the
acquisition of ARL. Net income for 1996 included a charge of approximately $0.6
million ($0.02 per share) for employee severance costs.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the
Consolidated Financial Statements and Notes thereto.
RESTATEMENT OF RESULTS FOR 1997
On November 5, 1998, the Company publicly announced that it and its
independent accountants had initiated a review of revenue recognition practices
which would result in a restatement of previously issued first and second
quarter 1998 results and that all three quarters of 1998 were expected to show
substantial operating losses. During the review, certain facts became known
indicating errors had been made in the application of revenue recognition
policies which also impacted the fourth quarter of 1997, and as a result, 1997
full-year results have been restated along with first and second quarter 1998
results.
21
<PAGE>
BUSINESS ACQUISITION
On September 8, 1997, the Company acquired ARL, an Israeli company. ARL
is an information security company providing remote access network security
products and smart-card technology focusing on the market for Internet-based
(TCP/IP) communications. ARL also provides security products to broadcast
networks. See Note 3 of Notes to Consolidated Financial Statements. The total
acquisition price of approximately $76.3 million was funded from a combination
of the Company's existing working capital, newly issued common stock and options
to purchase common stock. Approximately $63.9 million of the total purchase
price represented the value of in-process technology that had not yet reached
technological feasibility, had no alternative future uses and was charged to the
Company's operations in the third quarter ended September 26, 1997. The
amortization of capitalized intangibles of $0.8 million in 1997 and the charge
resulting from in-process technology are not deductible for income tax purposes.
The acquisition was accounted for under the purchase method of accounting; and
accordingly, the results of operations of ARL are included in the consolidated
financial statements from the date of acquisition.
DISCONTINUED OPERATION
On March 28, 1998, the Company sold its Wireless Communications Group
("Wireless") for total consideration of $60.5 million, subject to final closing
adjustments, consisting of $46.0 million in cash and a $14.5 million unsecured
note receivable. Pursuant to the restatement referred to in Note 2, certain
revenues of Wireless previously recognized in the fourth quarter of 1997 and the
first quarter of 1998 were adjusted. Based on the net assets of Wireless as of
March 28, 1998, after restatement, the sales proceeds would have been
approximately $58.4 million resulting in a note receivable of approximately
$12.4 million (a reduction of $2.1 million in the initial note receivable). See
Note 13 of Notes to Consolidated Financial Statements. The sale resulted in an
after tax gain of approximately $22.8 million.
RESULTS OF CONTINUING OPERATIONS
Except where noted, the comments herein are associated with the results
of the information security business. The following table sets forth certain
consolidated statement of operations data as a percentage of revenue for the
periods indicated:
Year ended December 31,
---------------------------
1997 1996 1995
---- ---- ----
(restated)
Revenue 100.0% 100.0% 100.0%
Cost of revenue 29.3 37.7 32.0
------ ----- -----
Gross profit 70.7 62.3 68.0
Operating expenses:
Research and development, net 26.2 31.8 37.8
Selling and marketing 33.6 36.7 26.5
General and administrative 17.7 23.1 22.9
Amortization of purchased intangibles 1.7 -- --
Purchased in-process technology 134.0 -- --
Employee severance costs -- 2.5 --
------ ----- -----
Total operating expenses 213.2 94.1 87.2
Loss from operations (142.5) (31.8) (19.2)
Other income, net 6.3 10.4 (0.6)
------ ----- -----
Loss from continuing operations
before income taxes (136.2) (21.4) (19.8)
Provision (benefit) for income taxes -- -- --
------ ----- -----
Loss from Continuing Operations (136.2)% (21.4)% (19.8)%
====== ===== =====
22
<PAGE>
Revenue. The Company's revenue increased 85% from $25.8 million in 1996
to $ 47.7 million in 1997. The increased revenue was primarily due to increased
unit sales of the Company's SecureWAN, including the Company's core link
encryption products, and SecureLAN encryption product lines, which are used in
public and private linked networks. Overall average selling prices decreased
marginally. Information security product revenue for 1997 includes $2.9 million
attributable to ARL.
The Company's revenue increased 20% from $21.5 million in 1995 to $25.8
million in 1996. The increased revenue was primarily due to increased unit sales
of the Company's SecureWAN, SecureLAN and SecureAccess encryption product lines.
Unit sales of the Company's core link encryption product line were essentially
flat in comparison with 1995.
International product revenue was 36%, 42% and 41% of revenue for 1995,
1996 and 1997, respectively.
Gross Profit. Gross profit increased 109% from $16.1 million in 1996 to
$ 33.7million in 1997, and increased as a percentage of sales from 62% to 71%.
The increase in dollars was primarily the result of the significant increase in
revenue. The increase in gross margin resulted from lower average unit costs and
a decrease in expenses for maintenance and support services.
Gross profit increased 10% from $14.6 million in 1995 to $16.1 million
in 1996, but decreased as a percentage of sales from 68% to 62%. Gross margin
declined as some of the newly introduced products have lower gross margins than
the Company's core link encryption products and these new products represented
an increased percentage of revenue.
Research and Development. Research and development expenses consist
primarily of salaries and other personnel-related expenses, depreciation of
development equipment, facilities and supplies. Gross research and development
expenses increased 55% from $9.2 million in 1995 to $14.3 million in 1996 and
decreased 3% to $13.9 million in 1997. The decrease in dollars and as a percent
of sales for 1997 as compared to 1996 resulted from reduced contract and other
variable expenses related to externally funded research and development and to a
substantially increased revenue base. From time to time, the Company receives
engineering funding for development projects to apply or enhance the Company's
technology to a particular customer's need. The amounts recognized under these
research and development contracts are offset against research and development
expense. Amounts recognized under non-recurring engineering contracts totaled
$1.1 million, $6.1 million and $1.4 million in 1995, 1996 and 1997,
respectively.
Selling and Marketing. Selling and marketing expenses consist primarily
of personnel costs, including sales commissions, and costs of advertising,
public relations, seminars and trade shows. Selling and marketing expenses
increased 66% from $5.7 million in 1995 to $9.5 million in 1996 and 69% to $16.0
million in 1997. The increases were primarily due to expenses associated with
expansion of the Company's direct sales force, personnel increases in the
marketing group, and increased costs associated with advertising, public
relations and trade shows.
General and Administrative. General and administrative expenses consist
primarily of personnel and related costs, recruitment expenses, information
system costs, and audit, legal and other professional service fees. General and
administrative expenses increased 21% from $4.9 million in 1995 to $6.0 million
in 1996 and 41% to $8.4 million in 1997. The dollar increases are primarily due
to increased staffing and professional fees necessary to manage and support the
Company's recent growth. The decrease as a percentage of revenue in 1997 was
primarily due to general and administrative expenses allocated over a larger
revenue base.
Employee Severance Costs. During the fourth quarter of 1996, the
Company recorded a $634,000 one-time charge related to the reorganization and
replacement of several senior management positions.
Other Income (Expense), Net. Other income (expense), net, primarily
consists of royalties, interest income, interest expense and investment gains
and losses. The increase in other income to $2.7 million in 1996 from net
expense of $0.1 million in 1995 was principally due to an increase in interest
income resulting from funds derived from the Company's initial public offering
in February and March 1996. Other expenses increased as the Company sold
marketable securities at a loss of $432,000 in 1996. Interest income, net,
decreased from $3.3 million in 1996 to $2.7 million in 1997 due primarily to
cash used for the acquisition of ARL. Additionally, in 1997 the Company recorded
a benefit of $632,000
23
<PAGE>
primarily related to the reversal of an allowance provided on the receivable
related to the Company's interest in a former partnership with RSA DSI known as
PKP. Management considers the uncertainty regarding ultimate collection of the
receivable to have been resolved as a result of the settlement agreement between
the Company and RSA DSI. The assets of the former partnership, consisting
primarily of cash, are being held in trust pending the resolution of certain
litigation described in Part I, Item 3 "Legal Proceedings." Management does not
believe the ultimate resolution of this matter will have a material adverse
impact on the Company's financial position or results of operations.
Provision (Benefit) for Income Taxes. Excluding the charges for
purchased in-process technology and amortization of capitalized intangibles, the
Company's effective tax rate for 1997 was approximately 27%. Net deferred tax
assets of $1.5 million at December 31, 1997, were based on management's
determination that the Company will more likely than not realize such assets
based on expected future income in the next twelve months. However, there can be
no assurance that the Company will be profitable in future periods. See Item I
"Business - Risk Factors That May Affect Future Results -- Recent Losses;
Potential Fluctuations in Operating Results, Future Operating Results
Uncertain."
Net income (loss). The Company had losses from continuing operations of
$4.3 million in 1995, $5.5 million in 1996 and $ 65.0 million in 1997. In 1994,
the Company began a strategic research and development program designed to
create new products and enhance existing products. While revenue increased in
1995, the Company incurred a net loss due to continued high levels of research
and development expenses related to the Company's strategic research and
development projects. In 1996, increased gross profit resulting from newer
information security products was more than offset by higher spending for
selling and marketing, resulting in a loss from operations. In 1997, the Company
incurred a loss from continuing operations due primarily to the nonrecurring
charge related to purchased in-process technology of $63.9 million.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1997, the Company had cash and cash equivalents of
$23.0 million, working capital of $ 47.3 million and minimal long-term
obligations. For 1997 the Company reported a net loss from continuing operations
of $ 65.0 million due to the aforementioned nonrecurring charge from the
acquisition of in-process technology. Net cash used by operating activities for
the years ended December 31, 1995, 1996 and 1997 consisted primarily of
significant increases in accounts receivable and inventory in order to support
increased revenue.
Cash used in investing activities in 1997 was $52.1 million, of which
$44.9 million was used for the acquisition of ARL. The Company also made
expenditures for property and equipment of $3.8 million and provided long-term
loans to employees of $3.5 million. The Company made capital expenditures of
$614,000 and $2.8 million in 1995 and 1996, respectively. Additionally, in 1995
and 1996 the Company acquired $493,000 and $256,000 of equipment financed by
capital leases. Expenditures for property and equipment have generally consisted
of computer workstations, networking equipment, office furniture and equipment,
and leasehold additions and improvements. In 1996, the Company received $2.8
million from the sale of marketable securities acquired in 1994.
Cash provided by financing activities was $2.2 million, $79.7 million
and $1.0 million for the years ended December 31, 1995, 1996 and 1997. In
February and March 1996, the Company completed its initial public offering and
its Common Stock began trading on the Nasdaq National Market under the symbol
CYLK. Through the offering the Company sold 5,750,000 shares of its Common Stock
which generated approximately $79.3 million in cash, net of underwriting
discounts, commissions and other offering costs.
The Company believes that existing cash balances and cash generated
from operations, if any, will be sufficient to fund necessary purchases of
capital equipment and to provide working capital through 1998. However, the
Company may require additional funds to support its working capital requirements
or for other purposes and may seek to raise such additional funds through public
or private equity financing or from other sources. No assurance can be given
that additional financing will be available or that, if available, will be
available on terms favorable to the Company or its shareholders. See Item 3
"Legal Proceedings" and Item 1 "Business - Risk Factors That May Affect Future
Results."
The company is in the process of evaluating and implementing changes,
as necessary, to its information systems and accordingly does not anticipate any
material "year 2000 issues" from its own information systems, databases or
programs. Management also believes that it has identified all risks of Y2K
errors in the Company's products. See Item 1 "Business-Year 2000" and " Risk
Factors that may affect Future Results." However, the Company's financial
position and
24
<PAGE>
results of operations could be adversely impacted by year 2000 issues faced by
distributors, suppliers, customers, vendors, and financial service organizations
with which the company interacts.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Applicable.
25
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index to Consolidated Financial Statements and Financial Statement Schedules
Page
----
Financial Statements:
Report of PricewaterhouseCoopers, LLP, Independent Accountants 26
Consolidated Balance Sheets at December 31, 1997 and 1996 27
Consolidated Statements of Operations for the years ended
December 31, 1997, 1996 and 1995 28
Consolidated Statements of Shareholders' Equity for the years ended
December 31, 1997, 1996 and 1995 29
Consolidated Statements of Cash Flows for the years ended
December 31, 1997, 1996 and 1995 30
Notes to Consolidated Financial Statements 31
Financial Statement Schedule:
Schedule II - Valuation and Qualifying Accounts 48
All other schedules are omitted because they are not required, are not
applicable, or the information is included in the consolidated financial
statements or notes thereto.
Report of Independent Accountants
To the Board of Directors and Shareholders of Cylink Corporation
In our opinion, the consolidated financial statements listed in the
above index present fairly, in all material respects, the financial
position of Cylink Corporation and its subsidiaries at December 31, 1997
and 1996, and the results of their operations and their cash flows for
each of the three years in the period ended December 31, 1997, in
conformity with generally accepted accounting principles. These
financial statements are the responsibility of the Company's management;
our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these
statements in accordance with generally accepted auditing standards
which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made
by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for
the opinion expressed above.
As indicated in Note 2, the Company restated its 1997 financial
statements with respect to revenue recognition.
PricewaterhouseCoopers LLP
San Jose, California
February 12, 1998, except as to the effect of the discontinued
operations described in Note 13, which is as of March 28, 1998, and the
effect of the restatement described in Note 2, which is as of December
16, 1998
26
<PAGE>
<TABLE>
Cylink Corporation
Consolidated Balance Sheets
(dollars in thousands, except share and per share data)
<CAPTION>
December 31,
----------------------------------------
1997 1996
--------------------- ---------
Assets (restated-See Note 2)
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 22,977 $ 78,849
Accounts receivable, net of allowances of $433 and $644 21,292 12,682
Inventories 11,913 8,828
Deferred income taxes 1,533 1,432
Other current assets 2,195 1,351
--------- ---------
Total current assets 59,910 103,142
Property and equipment, net 6,699 3,760
Acquired technology, goodwill and other intangibles 8,017 --
Notes receivable from employees 3,473 --
Other assets 932 186
--------- ---------
$ 79,031 $ 107,088
========= =========
Liabilities and Shareholders' Equity
Current liabilities:
Current portion of lease obligations and long-term debt $ 210 $ 167
Accounts payable 4,112 3,954
Accrued liabilities 6,796 5,090
Income taxes payable 1,304 60
Deferred revenue 206 353
--------- ---------
Total current liabilities 12,628 9,624
--------- ---------
Capital lease obligations and long-term debt 256 241
--------- ---------
Deferred income taxes 13 12
--------- ---------
Commitments and contingencies (Notes 10, 12 and 13)
Shareholders' equity:
Preferred stock, $0.01 par value; 5,000,000 shares authorized;
none issued and outstanding -- --
Common stock, $0.01 par value; 40,000,000 shares authorized;
28,695,000 and 25,597,000 shares issued and outstanding 287 257
Additional paid-in capital 120,092 89,772
Notes receivable from shareholders -- (301)
Deferred compensation related to stock options (250) (334)
Cumulative translation adjustment (63) 4
Retained earnings (accumulated deficit) (53,932) 7,813
--------- ---------
Total shareholders' equity 66,134 97,211
--------- ---------
$ 79,031 $ 107,088
========= =========
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
</TABLE>
27
<PAGE>
<TABLE>
Cylink Corporation
Consolidated Statements of Operations
(dollars in thousands, except per share data)
<CAPTION>
Year ended December 31,
-----------------------------------
1997 1996 1995
--------- --------- ---------
(restated-
See Note 2)
<S> <C> <C> <C>
Revenue $ 47,690 $ 25,793 $ 21,534
Cost of revenue 13,986 9,731 6,890
--------- --------- ---------
Gross profit 33,704 16,062 14,644
--------- --------- ---------
Operating expenses:
Research and development, net 12,488 8,198 8,142
Selling and marketing 16,036 9,475 5,698
General and administrative 8,422 5,963 4,937
Amortization of purchased intangibles 807 -- --
Purchased in-process technology 63,920 -- --
Employee severance costs -- 634 --
--------- --------- ---------
Total operating expenses 101,673 24,270 18,777
--------- --------- ---------
Loss from operations (67,969) (8,208) (4,133)
Other income (expense):
Interest income, net 2,697 3,303 50
Royalty and other income (expense), net 317 (617) (177)
--------- --------- ---------
Loss from continuing operations before income taxes (64,955) (5,522) (4,260)
Provision for income taxes -- -- --
--------- --------- ---------
Loss from continuing operations (64,955) (5,522) (4,260)
Income from discontinued operations, net of income tax
expense (benefit) of $1,439, $251 and $(755) (Note 13) 3,210 6,719 3,181
--------- --------- ---------
Net income (loss) $ (61,745) $ 1,197 $ (1,079)
========= ========= =========
Earnings (loss) per share - basic:
Continuing operations $ (2.43) $ (0.23) $ (0.24)
Discontinued operations 0.12 0.28 0.18
--------- --------- ---------
Net income (loss) $ (2.31) $ 0.05 $ (0.06)
========= ========= =========
Earnings (loss) per share - diluted:
Continuing operations $ (2.43) $ (0.23) $ (0.24)
Discontinued operations 0.12 0.28 0.18
--------- --------- ---------
Net income (loss) $ (2.31) $ 0.05 $ (0.06)
========= ========= =========
Shares used in per share calculation - basic 26,703 24,412 17,862
========= ========= =========
Shares used in per share calculation - diluted 26,703 24,412 17,862
========= ========= =========
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
</TABLE>
28
<PAGE>
Cylink Corporation
Consolidated Statements of Cash Flows
(dollars in thousands)
<TABLE>
<CAPTION>
Deferred
Notes Compensation Unrealized
Additional Receivable Related to Gain Cumulative
Common Stock Paid-in from Stock (Loss) on Translation
Shares Amount Capital Shareholders Options Investments Adjustment
---------- ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1994 17,624,000 $ 176 $ 7,063 $ -- $ -- $ (679) $ (106)
Issuance of common stock
under stock option plans 1,463,000 15 1,801 (515) -- -- --
Deferred compensation related
to stock options -- -- 417 -- (417) -- --
Unrealized gain on investments -- -- -- -- -- 263 --
Translation adjustment -- -- -- -- -- -- (29)
Net loss -- -- -- -- -- -- --
---------- ---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 1995 19,087,000 191 9,281 (515) (417) (416) (135)
Issuance of common stock
under stock option plans 760,000 8 1,088 -- -- -- --
Issuance of common stock in
initial public offering, net 5,750,000 58 78,806 -- -- -- --
Tax benefit from exercise of
nonqualified stock options -- -- 597 -- -- -- --
Payment on notes receivable
from shareholders -- -- -- 214 -- -- --
Amortization of deferred
compensation -- -- -- -- 83 -- --
Reversal of unrealized loss on
investments upon disposition -- -- -- -- -- 416 --
Translation adjustment -- -- -- -- -- -- 139
Net income -- -- -- -- -- -- --
---------- ---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 1996 25,597,000 257 89,772 (301) (334) -- 4
Issuance of common stock
under stock option plans 505,000 4 525 -- -- -- --
Issuance of common stock for
acquisition of Algorithmic
Research 2,593,000 26 29,499 -- -- -- --
Tax benefit from exercise of
nonqualified stock options -- -- 296 -- -- -- --
Payment on notes receivable
from shareholders -- -- -- 301 -- -- --
Amortization of deferred
compensation -- -- -- -- 84 -- --
Translation adjustment -- -- -- -- -- -- (67)
Net loss -- -- -- -- -- -- --
---------- ---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 1997 28,695,000 $ 287 $ 120,092 $ -- $ (250) $ -- $ (63)
========== ========== ========== ========== ========== ========== ==========
Retained
Earnings
(Accumulated
Deficit) Total
---------- ----------
(restated-
See Note 2)
<C> <C>
Balance at December 31, 1994 $ 7,695 $ 14,149
Issuance of common stock
under stock option plans -- 1,301
Deferred compensation related
to stock options -- --
Unrealized gain on investments -- 263
Translation adjustment -- (29)
Net loss (1,079) (1,079)
---------- ----------
Balance at December 31, 1995 6,616 14,605
Issuance of common stock
under stock option plans -- 1,096
Issuance of common stock in
initial public offering, net -- 78,864
Tax benefit from exercise of
nonqualified stock options -- 597
Payment on notes receivable
from shareholders -- 214
Amortization of deferred
compensation -- 83
Reversal of unrealized loss on
investments upon disposition -- 416
Translation adjustment -- 139
Net income 1,197 1,197
---------- ----------
Balance at December 31, 1996 7,813 97,211
Issuance of common stock
under stock option plans -- 529
Issuance of common stock for
acquisition of Algorithmic
Research -- 29,525
Tax benefit from exercise of
nonqualified stock options -- 296
Payment on notes receivable
from shareholders -- 301
Amortization of deferred
compensation -- 84
Translation adjustment -- (67)
Net loss (61,745) (61,745)
---------- ----------
Balance at December 31, 1997 $ (53,932) $ 66,134
========== ==========
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
</TABLE>
29
<PAGE>
<TABLE>
Cylink Corporation
Consolidated Statements of Cash Flows
(dollars in thousands)
<CAPTION>
Year ended December 31,
--------------------------------------
1997 1996 1995
-------- -------- --------
(restated-
See Note 2)
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) $(61,745) $ 1,197 $ (1,079)
Adjustments to reconcile net income (loss) to net
cash used in operating activities:
Purchased in-process technology 63,920 -- --
Depreciation and amortization 2,914 1,350 919
Deferred compensation related to stock options 84 83 --
Deferred income taxes (100) (516) (383)
Realized loss on sale of investments -- 432 --
Changes in assets and liabilities (net of effects of
ARL acquisition):
Accounts receivable (7,627) (6,669) (1,269)
Inventories (2,662) (2,732) (1,451)
Other assets (376) (405) 573
Accounts payable (22) 2,576 252
Accrued liabilities 90 1,349 414
Income taxes payable 1,244 (30) (314)
Deferred revenue (332) (936) (77)
-------- -------- --------
Net cash used in operating activities (4,612) (4,301) (2,415)
-------- -------- --------
Cash flows from investing activities:
Acquisition of property and equipment (3,786) (2,815) (614)
Purchase of Algorithmic Research, net of cash acquired (44,890) -- --
Loans to employees in exchange for notes receivable (3,473) -- --
Proceeds from sale of short-term investments -- 2,842 --
-------- -------- --------
Net cash provided by (used in)
investing activities (52,149) 27 (614)
-------- -------- --------
Cash flows from financing activities:
(Repayment) borrowings under bank line of credit -- (1,000) 1,000
Proceeds from issuance of common stock, net 529 79,960 1,301
Payment on notes receivable from shareholders 301 214 --
Repayment of capital lease obligations and long-term debt (170) (27) (58)
Tax benefit from exercise of stock options 296 597 --
-------- -------- --------
Net cash provided by financing activities 956 79,744 2,243
-------- -------- --------
Effect of exchange rate changes on
cash and cash equivalents (67) 139 (5)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents (55,872) 75,609 (791)
Cash and cash equivalents at beginning of year 78,849 3,240 4,031
-------- -------- --------
Cash and cash equivalents at end of year $ 22,977 $ 78,849 $ 3,240
======== ======== ========
Supplemental disclosures:
Cash paid for income taxes $ 31 $ 184 $ 58
Cash paid for interest 159 110 32
Equipment acquired under capital lease obligations -- 256 493
Common stock issued for notes receivable -- -- 515
Equity issued for purchase of ARL 29,525 -- --
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
</TABLE>
30
<PAGE>
Cylink Corporation
Notes to Consolidated Financial Statements
1. The Company and a Summary of its Significant Accounting Policies
The Company
Cylink Corporation (the "Company") was incorporated in California in
October 1989 to engage in the development, manufacture, license and marketing of
electronic encryption devices and in 1990 began developing wireless
communication products (see Note 13 for discontinued operations subsequent to
year end).
Basis of presentation
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany accounts and transactions
have been eliminated.
Through 1997 the Company's interim quarters ended on the last Friday
preceding the calendar quarter end. The Company's year end is December 31.
Foreign currency
The functional currency of the Company's Israeli operations is the U.S.
dollar. The functional currencies of the Company's other foreign operations are
the local currencies. The effects of translating the financial position and
results of operations of local functional currency operations are included as a
component of shareholders' equity. The effects of foreign currency transactions
and of remeasuring the financial position and results of Israeli operations into
the functional currency are included in the statement of operations. Net gains
and losses from foreign currency transactions were not significant during any of
the periods presented.
Cash equivalents and short-term investments
Cash equivalents consist of highly liquid investment instruments with an
original maturity at the time of purchase of three months or less.
The Company's short-term investments are classified as available-for-sale
and therefore are reported at fair value with unrealized gains and losses as a
separate component of shareholders' equity.
Inventories
Inventories are stated at the lower of standard cost (which approximates
actual cost on a first-in, first-out basis) or market.
Property and equipment
Property and equipment are recorded at cost. Depreciation is computed using
the straight-line method over the estimated useful lives of the assets,
generally five years. Amortization of leasehold improvements is computed using
the straight-line method over the shorter of the estimated useful lives of the
assets or the remaining lease term.
Amortization of Goodwill and other Intangibles
Goodwill related to the acquisition of ARL is being amortized on a
straight-line basis over seven years. Amounts allocated to capitalized
intangibles other than goodwill are being amortized over three years.
Revenue recognition
Revenue is recognized upon shipment to customers. Concurrently, a provision
is made for estimated cost to repair or replace products under warranty
arrangements. Revenue from sales to distributors is recognized upon shipment; no
right of return, stock rotation or price protection is given. Revenue from sales
to value added resellers is recognized upon shipment and concurrently a
provision for estimated returns is recorded.
31
<PAGE>
Research and development
Research and development costs are charged to operations as incurred. The
Company on occasion receives nonrecurring engineering funding for development
projects to apply or enhance the Company's technology to a particular customer's
needs. Non-refundable receipts are recognized over the term of the respective
contract using the percentage of completion method. Receipts, which are
refundable pending the achievement of certain results, are deferred and
recognized upon acceptance by the customer. Amounts billed on contracts and
collected prior to being earned are recorded as deferred revenue. At the time of
recognition, amounts received under research and development contracts are
offset against research and development expenses.
Software development costs are included in research and development and are
expensed as incurred. Statement of Financial Accounting Standards No. 86 (SFAS
86) requires the capitalization of certain software development costs once
technological feasibility is established, which the Company defines as
completion of a working model. The capitalized cost is then amortized on a
straight-line basis over the estimated product life, or on the ratio of current
revenues to total projected product revenues, whichever is greater. To date, the
period between achieving technological feasibility and the general availability
of such software has been short and software development costs qualifying for
capitalization have been insignificant. Accordingly, the Company has not
capitalized any software development costs.
Stock-based compensation
The Company accounts for stock based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees," and related Interpretations. The Company provides
additional pro forma disclosures as required under Statement of Financial
Accounting Standard No. 123 (SFAS 123), "Accounting for Stock-Based
Compensation" (See Note 7).
Income taxes
Deferred tax assets and liabilities are recognized for the expected tax
consequences of temporary differences between the tax bases of assets and
liabilities and their financial statement reported amounts.
Net income (loss) per share
Effective December 31, 1997, the Company adopted the provisions of
Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS
128"). SFAS 128 requires the Company to report both basic earnings per share,
which is based on the weighted-average number of common shares outstanding, and
diluted earnings per share, which is based on the weighted-average number of
common shares outstanding and dilutive potential common shares outstanding. All
prior years' earnings per share data have been restated to reflect the
provisions of SFAS 128. The Company's only potentially dilutive securities are
stock options (See Note 7). All common stock equivalents have been excluded from
the computation of diluted earnings per share as their effect is anti-dilutive
on the loss from continuing operations.
Concentrations of credit risk
Financial instruments that potentially subject the Company to significant
concentration of credit risk consist primarily of cash and cash equivalents,
accounts receivable, and to a lesser extent, currency fluctuation of balances
denominated in currencies other than the United States dollar. The Company
limits the amount of investment exposure to any one financial institution and
financial instrument. The Company performs on-going credit evaluations and
maintains reserves for potential credit losses; historically such losses have
been immaterial. The Company minimizes the amount of cash it maintains in local
currencies by maintaining excess cash in United States dollars.
No customer accounted for more than 10% of accounts receivable at December
31, 1997 and December 31, 1996 and no customer accounted for more than 10% of
revenue for any of the periods presented.
32
<PAGE>
Use of estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements, and reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
Dependence on suppliers
The Company's ability to timely deliver its products is dependent upon the
availability of quality components and subsystems used in these products. The
Company depends in part upon subcontractors to manufacture, assemble and deliver
certain items in a timely and satisfactory manner. The Company obtains certain
components and subsystems from single, or a limited number of sources. A
significant interruption in the delivery of such items could have a material
adverse effect on the Company's financial condition and results of operations.
Recent accounting pronouncements
In June 1997, the FASB issued Statement of Financial Accounting Standards
No.130, "Reporting Comprehensive Income"("SFAS 130"). SFAS 130 establishes
standards for reporting comprehensive income and its components in a financial
statement that is displayed with the same prominence as other financial
statements. Comprehensive income as defined includes all changes in equity (net
assets) during a period from nonowner sources. Examples of items to be included
in comprehensive income, which are excluded from net income, include foreign
currency translation adjustments and unrealized gain/loss on available for sale
securities. The disclosure prescribes by SFAS 130 must be made beginning with
the first quarter of 1998.
In June 1997, the FASB issued Statement of Financial Accounting Standards
No. 131, "Disclosures about Segments of an Enterprise and Related Information"
(SFAS 131"). This statement establishes standards for the way companies report
information about operating segments in annual financial statements. It also
establishes standards for related disclosures about products and services,
geographic areas, and major customers. The Company has not yet determined the
impact of adopting this new standard. The disclosures prescribes by SFAS 131 are
effective for 1998.
2. Restatement of Financial Results
On November 5, 1998, the Company publicly announced that it and its
independent accountants had initiated a review of revenue recognition practices
which would result in a restatement of previously issued first and second
quarter 1998 results and that the first three quarters of 1998 were all expected
to show substantial operating losses. During the review, certain facts became
known indicating errors had been made in the application of revenue recognition
policies which also impacted the fourth quarter of 1997, and as a result, 1997
full-year results have been restated along with first and second quarter 1998
results. These restated results were announced in a press release dated December
16, 1998.
This Annual Report on Form 10-K/A amends the Company's Annual Report on
Form 10-K previously filed for the year ended December 31, 1997. This Annual
Report on Form 10-K/A is filed in connection with the Company's restatement of
its financial statements for the year ended December 31, 1997. Financial
statement information and related disclosures included in this amended filing
reflect, where appropriate, changes as a result of the restatement. Except as
otherwise noted, information contained in this Annual Report on Form 10-K/A is
stated as of December 31, 1997.
As a result, the statement of operations has been restated as follows:
33
<PAGE>
For the year ended
December 31, 1997
------------------------------
As Originally
Reported As Restated
------------- -----------
(in thousands)
Sales $ 49,333 $ 47,690
Operating expenses 101,673 101,673
Income (loss) from
continuing operations (63,312) (64,955)
Net income (loss) $ (58,777) $ (61,745)
========= =========
Earnings (loss) per share-diluted
Continuing Operations $ (2.37) $ (2.43)
Discontinued Operations 0.17 0.12
--------- ---------
Net income (loss) $ (2.20) $ (2.31)
========= =========
The restatement of results for 1997 resulted in a reduction of
previously reported amounts at December 31, 1997 for accounts receivable of $5.0
million, and income taxes payable of $0.6 million, and a corresponding increase
in the previously reported amounts for inventory of $1.4 million and accumulated
deficit of $3.0 million, resulting in a restated accumulated deficit of $53.9
million.
3. Acquisition of Algorithmic Research
On September 8, 1997, the Company acquired all of the outstanding shares of
Algorithmic Research, Ltd. and Algart Holdings, Ltd. (hereafter referred to on a
combined basis as "ARL"), both limited liability companies organized under the
laws of the State of Israel. ARL is an information security company providing
remote access software products and smart-card technology focusing on the market
for Internet-based (TCP/IP) communications. ARL also provides security products
to broadcast networks. Consideration for this purchase was $44,890,000 in cash,
net of cash acquired, including transaction expenses of $3,536,000; and
2,593,169 shares of the Company's common stock and 409,641 fully vested options
to purchase common stock of the Company for $0.01 per share. The total value
placed on the common stock and options issued by the Company was $29,525,000.
The common stock and options issued are subject to decreasing restrictions on
trading and exercise, respectively, for three years from the transaction date.
The acquisition was recorded under the purchase method of accounting; and
accordingly, the results of operations of ARL are included in the consolidated
financial statements from the date of acquisition. The purchase price has been
allocated to the assets acquired and liabilities assumed based upon the fair
market values at the date of acquisition, as summarized below (in thousands):
Current assets (including cash and cash equivalents of $1,857) $ 4,380
Property and equipment 1,261
In-process technology 63,920
Developed technology and other intangibles 7,498
Goodwill 1,326
Other non-current assets 96
Current liabilities assumed (2,021)
Long-term debt assumed (188)
--------
$ 76,272
========
34
<PAGE>
The amounts allocated to technology were estimated using a risk adjusted
income approach applied to specifically identified technologies. In-process
technology was expensed upon acquisition because technological feasibility had
not been established and no alternative future uses existed. Amounts allocated
to capitalized intangibles other than goodwill are being amortized on a
straight-line basis over three years. Goodwill is being amortized on a
straight-line basis over seven years.
In connection with the acquisition of ARL in September 1997, the Company
allocated $63.9 million of the purchase price to in-process research and
development ("IPR&D"), and in accordance with generally accepted accounting
principles recorded an immediate charge off of that amount on the date of
acquisition. The amount allocated to IPR&D was determined in a manner consistent
with widely recognized appraisal practices and reviewed by our independent
accountants in the context of their examination of the financial statements
taken as a whole.
In a letter dated September 15, 1998, to the American Institute of
Certified Public Accountants, the Chief Accountant of the Securities and
Exchange Commission ("SEC") indicated the SEC Staff's concerns related to
certain appraisal practices generally employed in determining the fair value of
IPR&D. As a result, it is possible that the SEC staff may require that any
enterprise that recorded an IPR&D charge revise its estimate of the value of the
IPR&D. To the extent the Company is required by the SEC Staff to retroactively
revise its estimate of the value of IPR&D, such revision could result in the
capitalization of additional goodwill, the amortization of which would reduce
future operating results.
The following unaudited pro forma financial information relating to the
Company's continuing operations gives effect to the acquisition as if it had
occurred on January 1, 1996, excluding the charge related to purchased
in-process technology. These pro forma results have been prepared for
comparative purposes only and do not purport to be indicative of the results of
continuing operations which actually would have resulted had the acquisition
occurred on the date indicated, or which may result in the future.
Year ended December 31,
---------------------------
1997 1996
---------- ---------
(restated-
See Note 2)
(in thousands, except
per share data, unaudited)
Revenue $ 51,900 $ 32,999
Net loss on continuing operations (4,010) (9,552)
Net loss per share (0.14) (0.35)
Shares used to compute net loss per share
(basic and diluted) 28,522 27,005
35
<PAGE>
4. Initial Public Offering
In February 1996, the Company completed its initial public offering and
issued 5,000,000 shares of its common stock to the public at a price of $15.00
per share. In March 1996, the underwriters exercised their option to cover
over-allotments and an additional 750,000 shares of common stock were issued at
$15.00 per share. The Company received approximately $79 million of cash, net of
underwriting discounts, commissions and other offering costs.
In connection with the Company's initial public offering, the Board of
Directors authorized the issuance of up to 5,000,000 shares of undesignated
preferred stock and the Board has the authority to issue the undesignated
preferred stock in one or more series and to fix the rights, preferences,
privileges and restrictions thereof. No preferred stock had been issued as of
December 31, 1997.
5. Details of Balance Sheet Components
December 31,
-----------------------------------
1997 1996
-------- ----------
(restated-See Note 2)
(in thousands)
Inventories:
Raw materials $ 4,781 $ 4,126
Work in process and subassemblies 3,332 3,196
Finished goods 3,800 1,506
-------- --------
$ 11,913 $ 8,828
======== ========
Property and equipment:
Machinery and equipment $ 11,151 $ 7,068
Furniture and fixtures 1,246 624
Land and building 814 --
Leasehold improvements 680 564
-------- --------
13,891 8,256
Less: accumulated depreciation and
amortization (7,192) (4,496)
-------- --------
$ 6,699 $ 3,760
======== ========
Accrued liabilities:
Compensation and benefits $ 3,035 $ 2,116
Royalties 982 665
Employee severance costs 1,313 634
Distributor commissions 380 543
Other 1,086 1,132
-------- --------
$ 6,796 $ 5,090
======== ========
36
<PAGE>
6. Income Taxes
In computing the separate provision for (benefit from) income taxes on
continuing and discontinued operations, no benefit was allocated to the losses
from the continuing operations since on a stand alone basis the Company would
not have recognized the tax benefit of such losses due to uncertainty of
realization. Any benefits realized from these losses as a result of taxable
income generated by the discontinued operations have been netted against the
provisions associated with discontinued operations. There is no obligation on
the part of the discontinued operations to refund such benefits to the continued
operations. The provision (benefit) for income taxes on discontinued operations
consists of the following:
Year ended December 31,
--------------------------------
1997 1996 1995
------- ------- -------
(restated-
See Note 2)
(in thousands)
Current:
Federal $ 1,457 $ 709 $ (403)
State 6 58 (92)
Foreign 76 -- 123
------- ------- -------
1,539 767 (372)
------- ------- -------
Deferred:
Federal (24) (478) (348)
State (76) (38) (35)
------- ------- -------
(100) (516) (383)
------- ------- -------
$ 1,439 $ 251 $ (755)
======= ======= =======
Deferred tax assets (liabilities) comprise the following:
December 31,
---------------------
1997 1996
------- -------
(in thousands)
Assets:
Net operating loss and credit carryforwards $ 1,109 $ 984
Unrealized capital loss 270 166
Bad debt reserve 151 230
Inventory reserves and basis differences 1,492 1,382
Accrued expenses 368 448
Deferred rent -- 30
Warranty reserve 71 60
Other 41 102
------- -------
Total deferred tax assets 3,502 3,402
------- -------
Liabilities:
Depreciation (13) (5)
Other liabilities -- (7)
------- -------
Total deferred tax liabilities (13) (12)
------- -------
Valuation allowance (1,969) (1,970)
------- -------
Net deferred tax assets $ 1,520 $ 1,420
======= =======
37
<PAGE>
Net deferred tax assets of $1,520,000 at December 31, 1997 were based on
the Company's expected future income in the next twelve months. The Company
recorded a partial valuation allowance against the remainder of its deferred tax
assets.
The provision (benefit) reconciles to the amount computed by applying the
United States federal statutory rate to income before taxes as follows:
Year ended December 31,
----------------------------------
1997 1996 1995
---- ---- ----
(restated-
See Note 2)
U.S. federal statutory income tax rate (34.0)% 34.0% (34.0)%
State taxes, net of federal tax benefit -- 0.9 (4.6)
Research and development tax credits (0.2) (24.2) --
Change in valuation allowance -- 7.4 --
Purchased in-process technology 36.0 -- --
Foreign losses not benefitted (0.1) 5.2 --
Other 0.6 (6.0) (2.6)
---- ---- ----
Effective Tax Rate 2.3% 17.3% (41.2)%
==== ==== ====
The Company has not provided United States federal income taxes on the
undistributed earnings of foreign subsidiaries because it is the Company's
intention to permanently reinvest such earnings. At December 31, 1997, 1996 and
1995, total undistributed earnings of these subsidiaries were approximately
$1,916,000, $1,846,000 and $1,579,000, respectively.
The Company had research and development credit carry forwards of
approximately $938,000 and $980,000 at December 31, 1997 and 1996, respectively,
which expire from 2009 to 2012.
7. Stock Option Plans
The Company has two stock option plans: 1994 Flexible Stock Incentive Plan
which was the successor plan to the 1987 plan ("1994 Plan") and the Cylink/ARL
1997 Stock Option Plan ("1997 Plan"). The 1994 Plan provides for the grant of
incentive stock options and nonqualified stock options to executives, employees
and consultants to purchase up to 5,950,000 common shares. Stock options may be
granted at prices not less than 100% and 85% for incentive and nonqualified
stock options, respectively, of the fair market value of the stock on the date
of grant. Through December 31, 1997, all nonqualified stock options have been
granted at 100% of the fair market value of the stock on the date of grant.
Options granted under the 1994 Plan are exercisable at such times and under such
conditions as determined by the Board of Directors, and generally vest over five
years. Options expire ten years from the date of grant. Shares issued upon
exercise of options are subject to certain restrictions on their
transferability. The Company has the right to repurchase such shares, at a price
equal to the fair market value, when the option is no longer associated with the
Company. As of December 31, 1997 there were no shares subject to purchase.
Shares repurchased increase the number of shares available for grant under the
Plans.
The Company adopted the 1997 Plan in conjunction with the acquisition of
ARL. The 1997 Plan provides for the grant of nonqualified stock options to the
employees and consultants of ARL to purchase up to 410,000 common shares. On
September 8, 1997, the Company issued 409,641 fully vested options to purchase
common stock for $0.01 per share. The options are subject to decreasing
restrictions on exercise for three years from the grant date and expire in ten
years.
38
<PAGE>
The following table summarizes the Company's stock option activity and
related weighted average exercise price within each category for each of the
three years in the period ended December 31, 1997:
Weighted
Shares Average
Available Options Exercise
for grant Outstanding Price
---------- --------- ---------
Balance at December 31, 1994 983,055 3,399,945 $ 1.44
Approved 1,200,000 --
Granted at market price (779,450) 779,450 2.60
Granted below market price (436,000) 436,000 2.02
Exercised -- (1,462,785) 1.25
Canceled 315,452 (315,452) 1.91
---------- ---------
Balance at December 31, 1995 1,283,057 2,837,158 1.89
Approved 2,000,000 --
Granted at market price (2,042,810) 2,042,810 12.53
Exercised -- (760,492) 1.44
Canceled 741,723 (741,723) 4.89
---------- ---------
Balance at December 31, 1996 1,981,970 3,377,753 7.72
Approved 410,000 --
Granted at market price (2,519,157) 2,519,157 10.38
Granted below market price (409,641) 409,641 .01
Exercised -- (504,144) 1.64
Canceled 537,187 (537,187) 12.17
---------- ---------
Balance at December 31, 1997 359 5,265,220 $ 8.52
========== =========
In February 1997, the Company canceled options to purchase 225,100 shares
of common stock with exercise prices ranging from $13.13 to $23.50 previously
granted to employees, and reissued all such options at $11.00 to $11.63, the
fair market value of the stock on the date of cancellation. The reissued options
have a ten-year term and vest over five years from the date of reissuance.
<TABLE>
Significant option groups outstanding at December 31, 1997, and related
weighted average exercise price and contractual life information are as follows:
<CAPTION>
Options Outstanding Options Exercisable
----------------------------------------------------------------------------------------
Weighted
Average
Remaining Weighted Weighted
Range of Number Contractual Life Average Number Average
Exercise Prices Outstanding (in years) Exercise Price Outstanding Exercise Price
--------------- ----------- ---------- -------------- ----------- --------------
<S> <C> <C> <C> <C> <C> <C>
$ 0.01 to $ 2.00 1,206,408 7.5 $ 1.27 933,085 $ 1.07
$ 4.80 to $8.88 1,060,983 9.5 8.30 90,009 7.05
$9.00 to $11.00 1,450,834 9.0 10.75 259,827 10.71
$ 11.06 to $23.50 1,546,995 8.9 12.23 159,647 12.98
--------- ---------
5,265,220 8.7 $ 8.52 1,442,568 $ 4.50
========= =========
</TABLE>
39
<PAGE>
The weighted average estimated grant date fair value, as defined by SFAS
123, for options granted during 1995 at market price and below market price on
the dates of grant were $1.04 and $1.47, respectively. The weighted average
estimated grant date fair value for options granted at market price during 1997
and 1996 was $4.70 and $6.03, respectively. The estimated grant date fair value
disclosed by the Company is calculated using the Black-Scholes model. The
Black-Scholes model, as well as other currently accepted option valuation
models, was developed to estimate the fair value of freely tradeable, fully
transferable options without vesting restrictions, which significantly differ
from the Company's stock option awards. These models also require highly
subjective assumptions, including future stock price volatility and expected
time until exercise, which greatly affect the calculated grant date fair value.
The estimated grant date fair value for options granted under the 1997 Plan
was $9.82 based on an independent appraisal. The aggregate value of the options
issued was included as a component of the purchase price of ARL.
The following weighted average assumptions are included in the estimated
grant date fair value calculations for the Company's stock option awards under
the 1994 Plan:
1997 1996 1995
---- ---- ----
Expected life (years) 3.10 3.04 3.04
Risk-free interest rate 5.98% 5.93% 6.22%
Volatility 64.16% 69.46% 54.89%
Dividend yield 0.00% 0.00% 0.00%
<TABLE>
Had the Company recorded compensation costs based on the estimated grant
date fair value, as defined by SFAS 123, for awards granted under its 1994 Plan,
the Company's net income (loss) and net income (loss) per share would have been
reduced to the pro forma amounts below for the years ended December 31, 1997,
1996 and 1995 (in thousands, except for per share amounts):
<CAPTION>
1997 1996 1995
---- ---- ----
(restated-
See Note 2)
<S> <C> <C> <C> <C>
Net income (loss) As reported $(61,745) $1,197 $(1,079)
Pro forma (65,243) (325) (1,354)
Net income (loss) per share As reported $ (2.31) $ 0.05 $ (0.06)
Pro forma (2.44) (0.01) (0.08)
</TABLE>
The pro forma effect on net income (loss) and net income (loss) per share
for 1997, 1996 and 1995 is not representative of the pro forma effect on net
income in future years because it does not take into consideration pro forma
compensation expense related to grants made prior to 1995.
As of December 31, 1995, the Company had granted certain options for the
purchase of common stock at less than the deemed fair market value and
approximately $417,000 of compensation expense is being amortized over the
five-year vesting period of the options.
8. Notes Receivable From Employees
Pursuant to their employment agreements and related promissory notes,
during the first quarter of 1997 the Company loaned certain employees $3,473,000
towards the purchase of their principal residences. Of this amount, $2,843,000
is receivable from officers of the Company. The notes are interest free and are
due five years from the dates of the related notes, at which time the notes must
be repaid or convert into, and become subject to, the terms of a standard,
interest-bearing commercial loan. The notes are secured by deeds of trust on the
residences. The loan agreements provide for
40
<PAGE>
accelerated payment in the event of termination of employment under certain
conditions and, in one instance, under certain circumstances will be forgiven to
the extent of any decrease in the value of the related residence.
9. Research and Development Contracts
During the years ended December 31, 1997, 1996 and 1995, the Company
performed research and development under several government funded arrangements
aggregating $1,201,000, $3,777,000, and $526,000, respectively. These contracts
provide funding (irrespective of the results) for research and development of
certain cryptographic technologies which will be jointly owned by the Company
and these government agencies. Amounts received under these contracts are offset
against research and development expenses.
The Company performed research and development under several other research
and development contracts which provide for the development and transfer of
technology in exchange for development funding. The Company recorded as a
reduction of research and development expenses $225,000, $2,363,000 and $604,000
under such arrangements in the years ended December 31, 1997, 1996 and 1995,
respectively.
10. Joint Venture and Contingencies
On September 6, 1995, the Company obtained an arbitration award dissolving
a former partnership, known as PKP, between the Company's wholly-owned
subsidiary, Caro-Kann Corporation, and RSA DSI. Although various claims between
the Company and RSA DSI were settled on December 31, 1996, a third party
continues to pursue various claims against PKP and RSA DSI for wrongful business
practices in action C-94-20512 SW before the United States District Court for
the Northern District of California. A summary judgement favorable to PKP was
entered on August 29, 1997, and the matter has been appealed by the plaintiff to
the United States Court of Appeals for the Federal Circuit. In the event the
judgement of the district court is reversed, an unfavorable outcome at trial
might affect the residual value of the Company's interest in PKP. Management
believes that the ultimate resolution of this matter will not have a material
adverse effect on the Company's financial position, results of operations, or
cash flows.
On March 7, 1997, ten former employees of the Company filed suit in action
No. CV764647 in the Superior Court of California, County of Santa Clara, against
the Company, each of its Directors and its General Counsel, asserting claims for
wrongful termination, fraud, libel, slander, age discrimination, invasion of
privacy, and violation of the federal RICO statute. On July 11, 1997, an
eleventh employee filed suit in action No. CV767448 in the Superior Court of
California, County of Santa Clara, alleging similar claims against the Company
and its Chief Executive Officer. The Company removed CV764647 to the Federal
District Court for the Northern District of California and, after the Company
obtained an order dismissing certain of the plaintiffs' claims, including the
claims of libel and RICO violations, the Court remanded the action back to Santa
Clara Superior Court. Following the remand, the Company then obtained an order
consolidating CV764647 with CV767448 for purposes of discovery and trial. Both
matters are currently in the discovery phase, with trial scheduled for December
1998. Although the Company has placed its insurers on notice of these claims,
all of its insurers have reserved their rights and defenses under their
policies, and the extent of the insurers' liability under their respective
policies is undetermined. The Company believes the terminations were lawful, in
the best interests of the Company and intends to defend the matter vigorously.
The defense of this matter may divert a material amount of management's
attention and require the expenditure of significant legal fees and costs. An
unfavorable outcome, which exceeds the Company's insurance coverage, if any, may
also result in a material adverse effect on the Company's financial condition.
However, management believes that the ultimate resolution of this matter will
not have a material adverse effect on the Company's financial position, results
of operations or cash flows.
41
<PAGE>
11. Geographic Information
<TABLE>
The Company operates in one industry segment. Revenue and loss from
operations and identifiable assets, classified by the major geographic areas in
which the Company operates, were as follows:
<CAPTION>
Year ended December 31,
-----------------------------
1997 1996 1995
---- ---- ----
(restated-
See Note 2)
(in thousands)
<S> <C> <C> <C>
Revenue:
Sales to unaffiliated customers:
United States:
Customers in United States and Canada $ 26,970 $ 13,744 $ 13,096
Customers in Central and
South America 2,340 911 1,044
Customers in Europe 7,996 5,694 2,072
Customers in Asia 2,326 1,592 1,852
Europe 5,113 3,852 3,470
Israel:
Customers in Europe 530 -- --
Customers in Asia 2,332 -- --
Other 83 -- --
--------- --------- ---------
$ 47,690 $ 25,793 $ 21,534
--------- --------- ---------
Intercompany sales among geographic
entities eliminated in consolidation $ 2,266 $ 2,223 $ 1,782
--------- --------- ---------
Income (loss) from operations:
United States $ (3,723) $ (8,127) $ (4,490)
Europe 76 (81) 357
Israel (64,322) -- --
--------- --------- ---------
$ (67,969) $ (8,208) $ (4,133)
========= ========= =========
</TABLE>
<TABLE>
<CAPTION>
December 31,
----------------------
1997 1996
----------- --------
(restated-
See Note 2)
(in thousands)
<S> <C> <C>
Identifiable assets:
United States $ 40,959 $ 26,026
Europe 2,124 2,213
Israel 12,971 --
------- --------
56,054 28,239
General corporate assets consisting of cash,
cash equivalents and short-term investments 22,977 78,849
------- --------
$79,031 $107,088
======= ========
</TABLE>
Intercompany sales among the Company's geographic areas are recorded on the
basis of intercompany prices established by the Company.
At December 31, 1997 and 1996, total foreign liabilities (excluding
intercompany balances) were $2,747,000 and $660,000, respectively.
42
<PAGE>
12. Lease Commitments
The Company leases its headquarters and manufacturing facility and sales
offices under various noncancelable operating leases. These leases expire at
various dates through June 2001 and certain of the leases are renewable for an
additional five years. In addition to the minimum lease payments, the Company is
responsible for insurance, repairs and certain other operating costs under the
terms of the leases. The Company also leases certain equipment under long-term
lease agreements that are classified as capital leases. These capital leases,
which consist primarily of computer equipment, terminate at various dates
through 2000. Total equipment acquired under these capitalized leases, which
secure such borrowings, was $621,000 at cost and $294,000 at net book value as
of December 31, 1997.
Future minimum lease payments under all noncancelable operating and capital
leases are as follows (in thousands):
Operating Capital
Year ending December 31, Leases Leases
------- -------
1998 $ 1,175 $ 191
1999 721 86
2000 393 8
2001 197 --
------- -------
Total minimum payments $ 2,486 285
=======
Less: amount representing interest (40)
-------
Present value of capital lease obligations 245
Less: current portion (165)
-------
Lease obligations, long-term $ 80
=======
Rent expense under operating leases totaled $1,720,000, $1,207,000 and
$909,000 during the years ended December 31, 1997, 1996 and 1995, respectively.
13. Subsequent Event
On March 28, 1998, the Company sold its Wireless Communications Group
("Wireless") to P-Com, Inc. for approximately $46.0 million in cash and a $14.5
million unsecured note receivable due 100 days after closing, subject to final
closing adjustments. Pursuant to the restatement referred to in Note 2, certain
revenues of Wireless previously recognized in the fourth quarter of 1997 and the
first quarter of 1998 were adjusted. Based on the net assets of Wireless as of
March 28, 1998, after restatement, the sales proceeds would have been
approximately $58.4 million resulting in a note receivable of approximately
$12.4 million. The results of operations of Wireless have been classified as
discontinued operations in the accompanying consolidated statements of
operations. Wireless revenues were $28.0 million (restated), $26.2 million and
$13.4 million for the years ended December 31, 1997, 1996 and 1995,
respectively. The components of Wireless assets at December 31, 1997 (restated),
are as follows:
Accounts receivable, net $ 7,378
Inventories 5,689
Property and equipment 696
Other assets 12
Accounts payable (1,874)
Accrued liabilites (602)
--------
$ 11,299
========
43
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable
44
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item with respect to directors,
appearing under the caption "Election of Directors" including subcaptions
thereof, in the Company's Proxy Statement for the 1998 annual meeting of
shareholders to be held on or about May 22, 1998 (the "Proxy Statement") and
which will be filed in definitive form pursuant to Regulation 14a before the
meeting date and within 120 days after the end of fiscal year 1997, is
incorporated herein by reference. The information required by this Item
concerning the Company's executive officers is set forth in Part I hereof under
the caption "Executive Officers of the Registrant."
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item appearing under the caption
"Executive Compensation and Other Information" in the Company's Proxy Statement
is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item appearing under the caption
"Security Ownership of Certain Beneficial Owners and Management" in the
Company's Proxy Statement is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item appearing under the caption
"Certain Transactions" in the Company's Proxy Statement is incorporated herein
by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULE, AND REPORTS ON FORM 8-K
(a) 1. Financial Statements -- See index to Consolidated Financial Statements
and Financial Statement Schedule at page 25 of this Form 10-K/A.
2. Financial Statement Schedule -- See Index to Consolidated Financial
Statements and Financial Statement Schedule at page 25 of this Form
10-K/A.
3. Exhibits Index:
Exhibit
Number Description of Exhibit
------- ----------------------
2.1 Stock Purchase Agreement, dated as of September 7, 1997,
between Registrant, A.R. Data Security Ltd. And Algorithmic
Research Ltd. (4)
2.2 Seller's Agreement, dated as of September 8, 1997, among
Registrant, A.R. Data Security Ltd., Algorithmic Research
Ltd., Amos Fiat, Yossi Cohen, Yossi Tulpan, Koor Capital
Markets, and Telrad Holdings Ltd. (4)
2.3 Parent shareholders Indemnity Agreement, dated as of
September 8, 1997 among registrant, A.R. Data Security Ltd.,
Amos Fiat, Yossi Cohen, Yossi Tulpan, Koor Capital Markets,
and Telrad Holdings Ltd. (4)
45
<PAGE>
3.1 Amended and Restated Articles of Incorporation of the
Registrant (1) and Certificate of Amendment thereto dated
March 5, 1996.
3.2 Bylaws, as amended. (1)
3.3 Certificates of Amendment of the Bylaws dated March 26,
1997. (3)
4.1 Reference is made to Exhibits 3.1, 3.2, and 3.3.
4.2 Specimen certificate for Common Stock. (1)
10.1 Stockholder Agreement, dated as of September 29, 1989,
between the Company and the shareholders set forth therein,
and amendments thereto. (1)
10.2 Form of Indemnification Agreement between the Company and
each of its executive officers and directors. (1)
10.3 Employment Agreement between the Company and Lewis C.
Morris, dated April 1, 1989, and amendments thereto. (1) (2)
10.4 Employment Agreement between the Company and Jimmy K. Omura,
dated as of April 1, 1989, and amendments thereto. (1) (2)
10.5 Employment Agreement between the Company and Fernand B.
Sarrat, dated as of November 6, 1996. (2) (3)
10.6 Lease Agreement between the Company and ARGOSystems, Inc., a
wholly-owned subsidiary of The Boeing Company, dated May 1,
1994. (1)
10.7 License Agreement between the Company and The Board of
Trustees of the Leland Stanford Junior University, dated as
of August 25, 1989, the First Amendment to License
Agreement, dated as of April 6, 1990, and the Second
Amendment to License Agreement, dated as of July 7, 1995.
(1)
10.8 Company's 1987 Non-Qualified Stock Option Plan, including
forms of agreements thereunder. (1) (2)
10.9 Company's 1994 Flexible Stock Incentive Plan, including
forms of agreements thereunder, and amendments thereto. (1)
(2)
10.10 Loan and Security Agreement between the Company and Silicon
Valley Bank dated as of July 20, 1995. (1)
21.1 Subsidiaries of the Company.
23.1 Consent of PricewaterhouseCoopers LLP.
24.1 Power of Attorney. Reference is made to Page IV-2.
27.1 Financial Data Schedule. (5)
- -------------------------------------------
(1) Incorporated by reference from the Company's Registration
Statement on Form S-1 Registration No. 33- 80719, which
became effective February 15, 1996.
(2) Management contract or compensatory plan or arrangement
required to be filed as an exhibit to this report on Form
10-K/A pursuant to Item 14(a).
(3) Incorporated by reference from the Company's report on Form
10-K filed as of March 31, 1997 for the fiscal year ended
December 31, 1996.
(4) Incorporated by reference from the Company's report on Form
8-K filed as of September 23, 1997, and report on Form 8-K/A
filed as of November 24, 1997.
(5) To be filed by amendment to this report on Form 10-K/A.
(b) On November 24, 1997, the Company filed a report on Form 8-K/A amending the
report on Form 8-K filed as of September 23, 1997, reporting under Items 2,
7, and 9 the Company's acquisition of ARL, by reporting under Item 7 the
consolidated financial statements of A.R. Data Security Ltd. and pro forma
financial information for the Company and ARL.
46
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
CYLINK CORPORATION
Date: April 21, 1999 By: /s/ William P. Crowell
-----------------------
William P. Crowell
President and Chief
Executive Officer
(as of November 4, 1998)
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Roger A. Barnes and Robert B. Fougner,
and each of them, acting individually, as his or her attorney-in-fact, each with
full power of substitution and resubstitution, for him and in his name, place
and stead, in any and all capacities, to sign any and all amendments to this
Report on Form 10-K/A, and to file the same, with all exhibits thereto, and
other documents in connection therewith, with the Securities and Exchange
Commission, granting unto said attorneys-in-fact and agents, and each of them,
full power and authority to do and perform each and every act and thing
requisite and necessary to be done in connection therewith and about the
premises, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorneys-in-fact and
agents, or any of them, or their or his substitute or substitutes, may lawfully
do or cause to be done by virtue hereof.
<TABLE>
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/ WILLIAM P. CROWELL President and Chief Executive Officer April 21, 1999
----------------------- (Principal Executive Officer)
William P. Crowell (as of November 4, 1998)
/s/ ROGER A. BARNES Vice President of Finance and Administration April 21, 1999
----------------------- and Chief Financial Officer (Principal Financial
Roger A. Barnes and Accounting Officer) (as of November 16, 1998)
/s/ LEO A. GUTHART Chairman of the Board April 21, 1999
-----------------------
Leo A. Guthart
/s/ ELWYN BERLEKAMP Director April 21, 1999
-----------------------
Elwyn Berlekamp
/s/ WILLIAM W. HARRIS Director April 21, 1999
-----------------------
William W. Harris
/s/ HOWARD L. MORGAN Director April 21, 1999
-----------------------
Howard L. Morgan
</TABLE>
47
<PAGE>
<TABLE>
SCHEDULE II
CYLINK CORPORATION
VALUATION AND QUALIFYING ACCOUNTS
Years ended December 31, 1995, 1996 and 1997
(in thousands)
<CAPTION>
Additions
Balance at Charged to Deductions Balance
Beginning Statement of from at end
of Period Operations Reserves of Period
<S> <C> <C> <C> <C>
Allowance for doubtful accounts
Year ended December 31, 1995 $279 $ 210 $ (6) $483
Year ended December 31, 1996 $483 $ 269 $108 $644
Year ended December 31, 1997 $644 $(211) $ - $433
</TABLE>
48
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statements on Form S-8 (Nos. 333-09797 and 333-36845) of Cylink Corporation of
our report dated February 12, 1998 except as to the effect of the discontinued
operations described in Note 13, which is as of March 28, 1998, and the effect
of the restatement described in Note 2, which is as of December 16, 1998, which
appears on page 33 of the Company's Annual Report on Form 10-K/A for the year
ended December 31, 1997.
PricewaterhouseCoopers LLP
San Jose, California
April 21, 1999
49
