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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
COMMISSION FILE NUMBER 000-21129
AWARE, INC.
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(Exact Name of Registrant as Specified in Its Charter)
MASSACHUSETTS 04-2911026
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
40 MIDDDLESEX TURNPIKE, BEDFORD, MASSACHUSETTS, 01730
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(Address of Principal Executive Offices)
(Zip Code)
(781) 276-4000
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(Registrant's Telephone Number, Including Area Code)
Indicate by check 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
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Indicate the number of shares outstanding of the issuer's common stock as of
October 30, 1998:
CLASS NUMBER OF SHARES OUTSTANDING
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Common Stock, par value $0.01 per share 20,731,867 shares
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AWARE, INC.
FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
TABLE OF CONTENTS
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Page
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PART I FINANCIAL INFORMATION
Item 1. Consolidated Condensed Financial Statements
Consolidated Condensed Balance Sheets as of
September 30, 1998 and December 31, 1997...................... 3
Consolidated Condensed Statements of Operations for the
Three and Nine Months Ended September 30, 1998
and September 30, 1997........................................ 4
Consolidated Condensed Statements of Cash Flows for the
Nine Months Ended September 30, 1998
and September 30, 1997........................................ 5
Notes to Consolidated Condensed Financial Statements.......... 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations........................... 7
PART II OTHER INFORMATION
Item 1. Legal Proceedings.............................................17
Item 2. Changes in Securities and Use of Proceeds.....................17
Item 6. Exhibits and Reports on Form 8-K..............................18
Signatures....................................................18
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1: CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
AWARE, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(unaudited)
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
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ASSETS
Current assets:
Cash and cash equivalents ................................................. $ 14,777,864 $ 23,496,508
Short-term investments .................................................... 10,047,562 2,607,411
Accounts receivable (less allowance for doubtful
accounts of $100,000 in 1998 and $50,000 in 1997) ...................... 2,008,924 1,824,119
Inventories ............................................................... 224,387 215,622
Prepaid expenses .......................................................... 263,666 290,847
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Total current assets ................................................ 27,322,403 28,434,507
Property and equipment, net of accumulated depreciation and
amortization of $2,452,162 in 1998 and $1,330,281 in 1997 ................. 10,583,140 10,846,025
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Total assets ................................................................... $ 37,905,543 $ 39,280,532
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable .......................................................... $ 566,960 $ 1,075,126
Accrued expenses .......................................................... 121,595 185,676
Accrued compensation ...................................................... 377,339 326,558
Accrued professional ...................................................... 50,613 73,370
Deferred revenue .......................................................... 18,750 --
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Total current liabilities ......................................... 1,135,257 1,660,730
Stockholders' equity:
Preferred stock, $1.00 par value; 1,000,000 shares authorized,
none outstanding .................................................. -- --
Common stock, $.01 par value; 30,000,000 shares authorized; issued
and outstanding, 20,651,676 in 1998 and 19,646,024 in 1997 ........ 206,517 196,460
Additional paid-in capital ............................................... 54,152,011 52,640,360
Accumulated deficit ...................................................... (17,588,242) (14,764,056)
Treasury stock ........................................................... -- (452,962)
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Total stockholders' equity ........................................ 36,770,286 37,619,802
Total liabilities and stockholders' equity ..................................... $ 37,905,543 $ 39,280,532
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</TABLE>
The accompanying notes are an integral part of the financial statements.
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AWARE, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(unaudited)
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Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------- -------------------------------
1998 1997 1998 1997
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Revenue:
Product.................................... $ 361,691 $ 323,430 $ 1,281,272 $ 574,523
License and royalty......................... 2,341,210 146,344 4,437,200 2,301,462
Research and development.................... 643,792 252,726 2,063,741 1,518,017
----------- ----------- ----------- ----------
Total revenue........................... 3,346,693 722,500 7,782,213 4,394,002
Costs and expenses:
Cost of product revenue..................... 301,849 387,375 1,135,611 879,433
Research and development.................... 2,376,617 1,815,765 6,868,635 4,681,977
Selling and marketing....................... 620,222 605,016 2,249,693 1,472,006
General and administrative.................. 551,416 484,043 1,640,350 1,403,014
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Total costs and expenses............... 3,850,104 3,292,199 11,894,289 8,436,430
Loss from operations............................ (503,411) (2,569,699) (4,112,076) (4,042,428)
Other income and expense........................ 102,750 -- 300,750 --
Interest income................................. 322,889 423,753 987,139 1,344,782
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Net loss before provision for income taxes...... (77,772) (2,145,946) (2,824,187) (2,697,646)
Provision for income taxes...................... -- -- -- --
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Net loss........................................ $ (77,772) $(2,145,946) $(2,824,187) $(2,697,646)
=========== =========== =========== ===========
Net loss per share - basic...................... $ (0.00) $ (0.11) $ (0.14) $ (0.14)
Net loss per share - diluted.................... $ (0.00) $ (0.11) $ (0.14) $ (0.14)
=========== =========== =========== ===========
Weighted average shares - basic................. 20,636,604 19,430,032 20,192,611 19,257,651
Weighted average shares - diluted............... 20,636,604 19,430,032 20,192,611 19,257,651
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</TABLE>
The accompanying notes are an integral part of the financial statements.
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AWARE, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(unaudited)
<TABLE>
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Nine Months Ended
September 30,
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1998 1997
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Cash flows from operating activities:
Net loss................................................... $(2,824,187) $(2,697,646)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization............................. 1,121,882 573,704
Increase (decrease) from changes in assets and
liabilities:
Accounts receivable.................................. (184,805) 617,477
Unbilled accounts receivable......................... -- 78,852
Inventories.......................................... (8,765) 241,317
Prepaid expenses..................................... 27,181 (272,658)
Accounts payable..................................... (508,166) 122,912
Accrued expenses..................................... (36,057) 122,567
Deferred revenue..................................... 18,750 --
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Net cash used in operating activities........................ (2,394,167) (1,213,475)
Cash flows from investing activities:
Purchases of property and equipment....................... (858,996) (8,591,428)
Net sales (purchases) of short-term investments.......... (7,440,151) 3,057,316
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Net cash used in investing activities........................ (8,299,147) (5,534,112)
Cash flows from financing activities:
Proceeds from issuance of common stock................... 1,974,670 1,031,756
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Decrease in cash and cash equivalents......................... (8,718,644) (5,715,831)
Cash and cash equivalents, beginning of period................ 23,496,508 31,092,273
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Cash and cash equivalents, end of period...................... $14,777,864 $25,376,442
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</TABLE>
The accompanying notes are an integral part of the financial statements.
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AWARE, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(unaudited)
A) BASIS OF PRESENTATION
The accompanying unaudited consolidated condensed balance sheets,
statements of operations, and statements of cash flows reflect all
adjustments (consisting only of normal recurring items) which are, in
the opinion of management, necessary for a fair presentation of the
Company's financial position at September 30, 1998, and of its
operations and cash flows for the interim periods ended September 30,
1998 and 1997.
The accompanying unaudited consolidated condensed financial statements
have been prepared in accordance with the instructions for Form 10-Q
and therefore do not include all information and footnotes necessary
for a complete presentation of operations, the financial position, and
cash flows of the Company, in conformity with generally accepted
accounting principles. The Company filed audited financial statements
which included all information and footnotes necessary for such
presentation for the three years ended December 31, 1997 in conjunction
with its 1997 Annual Report on Form 10-K.
The results of operations for the interim period ended September 30,
1998 are not necessarily indicative of the results to be expected for
the year.
B) INVENTORIES
Inventories consist primarily of the following:
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September 30, December 31,
1998 1997
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Raw materials............................... $ 97,132 $163,555
Work-in-process............................. -- --
Finished goods.............................. 127,255 52,067
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Total................................ $224,387 $215,622
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</TABLE>
C) NET LOSS PER SHARE
In December 1997, the Company adopted SFAS No. 128, "Earnings Per
Share." SFAS No. 128 establishes standards for computing and presenting
earnings per share and applies to entities with publicly held common
stock or potential common stock. Prior to December 1997, the Company
computed earnings per share in accordance with APB Opinion No. 15,
"Earnings per Share." The adoption of SFAS No. 128 had no effect on
previously reported net loss per share for the three and nine month
periods ended September 30, 1997.
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ITEM 2:
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
Certain statements contained in the following Management's Discussion and
Analysis of Financial Condition and Results of Operations, including statements
regarding the anticipated development and expansion of the Company's business,
the intent, belief or current expectations of the Company, its directors or its
officers, primarily with respect to the future operating performance of the
Company, and other statements contained herein regarding matters that are not
historical facts, are "forward-looking" statements. These forward-looking
statements represent the Company's present expectations or beliefs concerning
future events, however, the Company cautions that such statements are qualified
by important factors. Such factors, which include, but are not limited to, the
risk factors identified below, could cause actual results to differ materially
from those indicated in Management's Discussion and Analysis of Financial
Condition and Results of Operations.
OVERVIEW
For its first seven years, the Company was primarily engaged in research,
specializing in the application of transform mathematics, including wavelet to
digital compression and telecommunications. In 1993, the Company shifted its
business from contract research toward development and licensing of Asymmetric
Digital Subscriber Line ("ADSL") and other broadband technologies as well as
data and video compression software. Commencing in 1996 and 1997, the Company
began to complement its ADSL technology licensing and development activities by
offering ADSL products, including modems, access routers, transceiver modules,
and development systems. The Company's two principal objectives with respect to
its product business were to demonstrate its ADSL technology through its
products, and to fill trial equipment opportunities until widespread deployment
of ADSL services began.
In the second quarter of 1998, the Company made a decision to focus primarily on
licensing its intellectual property and software to semiconductor companies and
to systems companies that desire to vertically integrate Aware's technology to
enable them to manufacture and sell integrated circuits incorporating Aware
technology. The Company also intends to market its technology to: (i)
telecommunications and data communications equipment companies to encourage them
to design Aware technology into their products, and (ii) service providers to
encourage them to deploy services, such as high-speed Internet Access, based on
Aware technology. Additionally, the Company will continue to sell ADSL
development systems to support its technology licensing business, as well as
license hardware designs and software-based compression products.
The decision to focus the strategic direction on intellectual property and
software licensing was driven by the following factors: (i) consolidation within
the industry among ADSL technology providers created an opportunity for
independent technology suppliers to fill a demand by semiconductor companies for
such technology, (ii) the Company amended its agreement with Analog Devices,
Inc. in March 1998 from an exclusive to a non-exclusive relationship, thus
allowing the
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Company to license its technology to other semiconductor companies, (iii) Aware
believes that its intellectual property position with respect to full rate ADSL,
splitterless Digital Subscriber Line ("DSL") Lite and emerging DSL standards
affords it an opportunity to offer semiconductor companies valuable technologies
and intellectual property, and (iv) recent ADSL equipment pricing pressure has
caused the Company to conclude that there are other companies that could more
efficiently manufacture, distribute and support ADSL equipment.
Accordingly, the Company believes its future revenue will consist principally of
licensing, contract engineering, and royalty revenue. While the Company believes
that product revenue will continue, the Company expects that it will decline as
a percentage of total revenue.
RESULTS OF OPERATIONS
Product Revenue. Product revenue consists primarily of revenue from the
sale of ADSL modems, access routers, transceiver modules, and development
systems. Product revenue increased by 11.8% from $323,430 in the third quarter
of 1997 to $361,691 in the current year quarter. Product revenue as a percentage
of total revenue was 10.8% in the third quarter of 1998 as compared to 44.8% in
the corresponding quarter of 1997. The dollar increase is primarily due to
increased revenue from the sale of development systems and the shipment of
prototype transceiver modules. The increase was partially offset by lower
revenue from transceiver modules.
For the nine months ended September 30, product revenue increased by 123.0% from
$574,523 in 1997 to $1,281,272 in 1998. Product revenue as a percentage of total
revenue was 16.5% for the first nine months of 1998 as compared to 13.1% in the
corresponding period of 1997. The dollar increase is primarily due to the
availability of products in the current year periods that were not available in
the prior year periods. Such new products include the Company's development
systems and x200 Access Routers. To a lesser degree, the increase in product
revenue was also the result of shipments of prototype transceiver modules.
License and Royalty Revenue. License and royalty revenue consists primarily
of revenue from the sale of intellectual property, such as hardware and software
technology licenses, compression software licenses, and royalties from the sale
of chipsets by customers who have licensed the Company's technology. As such
revenue has only a nominal cost of sale associated with it, the Company does not
report a separate cost of license and royalty revenue line in its Statements of
Operations.
License and royalty revenue increased by 1500% from $146,344 in the third
quarter of 1997 to $2,341,210 in the current year quarter. License and royalty
revenue as a percentage of total revenue was 70.0% in the third quarter of 1998
as compared to 20.3% in the corresponding quarter of 1997. The dollar increase,
as well as the increase as a percentage of total revenue, is primarily due to:
(i) a substantial increase in telecommunications licensing and royalty revenue,
of which there was none in the corresponding quarter of 1997, and (ii) to a
lesser degree, higher compression software license revenue. The increase in
telecommunications licensing revenue was primarily attributable to revenue from
license transactions with the Company's lead customers, including Analog Devices
Inc. ("ADI"), Lucent Technologies Inc. ("Lucent"), Siemens AG ("Siemens") and
3Com Corp. ("3Com"). Such license revenue was fairly evenly distributed among
these four customers.
For the nine months ended September 30, license and royalty revenue increased by
92.8% from $2,301,462 in 1997 to $4,437,200 in 1998. License and royalty revenue
as a percentage of total
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revenue was 57.0% for the first nine months of 1998 as compared to 52.4% in the
corresponding period of 1997. The dollar increase, as well as the increase as a
percentage of total revenue, was primarily due to a substantial increase in
telecommunications licensing and royalty revenue. The increase was partially
offset by lower compression software license sales. The increase in
telecommunications licensing revenue was primarily attributable to license
transactions with the Company's lead customers, including ADI, Lucent, Siemens
and 3Com. The decrease in compression software revenue was primarily due to a
significant compression software license sale in the second quarter of 1997 that
did not reoccur in the current year.
Research and Development Revenue. Research and development revenue consists
primarily of revenue from commercial contract engineering and development, and
government research contracts. Research and development revenue increased by
154.7% from $252,726 in the third quarter of 1997 to $643,792 in the current
year quarter. Research and development revenue as a percentage of total revenue
was 19.2% in the third quarter of 1998 as compared to 35.0% in the corresponding
quarter of 1997. The dollar increase is primarily due to an increase in
commercial engineering revenue, which was partially offset by lower revenue from
U.S. government research projects. The increase in commercial engineering
project revenue is primarily due to the development of splitterless DSL-Lite
technology with a telecommunications customer that commenced in the fourth
quarter of 1997, which was partially offset by the temporary suspension of the
Company's Hybrid Fiber Coaxial ("HFC") project in the third quarter of 1997.
U.S. government research revenue is lower due to a decision by the Company to
shift away from this type of business.
For the nine months ended September 30, research and development revenue
increased by 35.9% from $1,518,017 in 1997 to $2,063,741 in 1998. Research and
development revenue as a percentage of total revenue was 26.5% for the first
nine months of 1998 as compared to 34.5% in the corresponding period of 1997.
The dollar increase is primarily due to an increase in commercial engineering
revenue, which was partially offset by lower U.S. government research revenue.
The increase in commercial engineering project revenue is primarily due to the
development of splitterless DSL-Lite technology with a telecommunications
customer that commenced in the fourth quarter of 1997.
Cost of Product Revenue. Cost of product revenue consists primarily of: (i)
direct material, direct labor, and overhead costs to produce the Company's
products, (ii) cost of goods for purchases of finished inventory from third
party suppliers, and (iii) provisions for excess and obsolete inventory.
Cost of product revenue as a percentage of product revenue was 83.5% in the
third quarter of 1998 as compared to 119.8% in the corresponding quarter of
1997. The cost of product revenue as a percentage of product revenue in both
periods primarily reflects high material, labor and fixed manufacturing costs
due to relatively low production volumes, and provisions for excess and obsolete
inventory of $75,000 in the third quarter of 1998 and $50,000 in the third
quarter of 1997. Excluding obsolete inventory provisions, cost of product
revenue as a percentage of product revenue was 62.7% in the third quarter of
1998 and 104.3% in the third quarter of 1997.
Cost of product revenue as a percentage of product revenue was 88.6% for the
first nine months of 1998 as compared to 153.1% in the corresponding 1997
period. The cost of product revenue as a percentage of product revenue in both
periods primarily reflects high material, labor and fixed manufacturing costs
due to relatively low production volumes, and provisions for excess and obsolete
inventory of $225,000 in both nine month periods. Excluding obsolete inventory
provisions,
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cost of product revenue as a percentage of product revenue was 71.1% for the
first nine months of 1998 as compared to 113.9% in the corresponding 1997
period.
Research and Development Expense. Research and development expense consists
primarily of salaries for engineers, and expenses for consultants, recruiting,
supplies, equipment, depreciation and facilities. Research and development
expense increased by 30.9% from $1,815,765 in the third quarter of 1997 to
$2,376,617 in the current year quarter. For the nine month period ended
September 30, research and development expense increased by 46.7% from
$4,681,977 in 1997 to $6,868,635 in 1998. For the three and nine month periods,
the increase in research and development expense is primarily due to engineering
developments for joint products with our key customers, ADI, Lucent and Siemens.
The increase was also attributable to higher development spending on our core
ADSL, splitterless DSL-Lite, Very High Speed Digital Subscriber Line ("VDSL"),
and Application Specific Integrated Circuits ("ASIC") Core technologies.
Increased spending on these projects was partially offset by no spending on the
Company's HFC project, which was temporarily suspended in the third quarter of
1997. The Company anticipates that research and development spending will
continue to grow in future periods.
Selling and Marketing Expense. Selling and marketing expense consists
primarily of salaries for sales and marketing personnel, travel, advertising and
promotion, recruiting, and facilities expense. Selling and marketing expense
increased by 2.5% from $605,016 in the third quarter of 1997 to $620,222 in the
current year quarter. The increase is primarily due to increased marketing costs
to create awareness of the Company's technology, which was partially offset by
lower sales and support staff spending resulting from the realignment of the
sales organization with the Company's strategy in the second quarter of 1998.
For the nine month period ended September 30, selling and marketing expense
increased by 52.8% from $1,472,006 in 1997 to $2,249,693 in 1998. The increase
is primarily due to: (i) non-recurring costs incurred in the second quarter of
1998 to better align the sales organization with the Company's strategy, and
(ii) increased marketing costs to create awareness of the Company's technology.
General and Administrative Expense. General and administrative expense
consists primarily of salaries for administrative personnel, facilities costs,
expenses related to being a public company, and professional services, such as
legal and audit expenses. General and administrative expense increased by 13.9%
from $484,043 in the third quarter of 1997 to $551,416 in the current year
quarter. The increase is primarily due to additions to the Company's information
systems organization, and incremental costs associated with the realignment of
the executive staff, which was partially offset by lower investor relations
expense.
For the nine month period ended September 30, general and administrative expense
increased 16.9% from $1,403,014 in 1997 to $1,640,350 in 1998. The increase is
primarily due to: (i) additions to the Company's finance and information systems
organizations to support organizational growth, (ii) incremental costs
associated with the realignment of the executive staff and (iii) investor
relations and public company expenses.
Other Income and Expense. Other income increased from zero in the third
quarter of 1997 to $102,750 in the current year quarter. For the nine month
period ended September 30, other income increased from zero in 1997 to $300,750
in 1998. Other income in both periods primarily relates to rental income from a
real estate lease. When the Company completed the purchase of its headquarters
building in July 1997, the terms of the purchase agreement required the Company
to sublet 24,000 square feet to the seller for a period of 18 months.
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Interest Income. Interest income decreased 23.8% from $423,753 in the third
quarter of 1997 to $322,889 in the current year quarter. For the nine month
period ended September 30, interest income decreased 26.6% from $1,344,782 in
1997 to $987,139 in 1998. The decrease in both periods is primarily a result of
lower cash balances due to: (i) the purchase and renovation of the Company's
72,000 square foot headquarters building, (ii) the acquisition of computers,
software, furniture, and other equipment primarily used in research and
development activities, and (iii) the use of cash to fund operating losses.
Income Taxes. The Company has made no provision for income taxes as it has
a history of net losses, which has resulted in tax loss carryforwards. At
December 31, 1997, the Company had available federal net operating loss
carryforwards of approximately $16,586,000, which expire in 2003 through 2012,
and federal research and development credit carryforwards of approximately
$791,000, which expire in 2003 through 2012. At December 31, 1997, the Company
also had available state net operating loss carryforwards of approximately
$9,261,000, which expire in 1998 through 2002 and state research and development
and investment tax credit carryforwards of approximately $395,000, which expire
in 2006 through 2012. Of the total net operating loss carryforwards,
approximately $1,906,000 are attributable to the exercise of stock options, and
the tax benefit from these losses, when utilized, will be credited to additional
paid-in capital.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1998, the Company had cash, cash equivalents and short-term
investments of $24,825,426, a decrease of $1,278,493 from December 31, 1997.
This decrease is primarily due to $2,394,167 of cash used in operations and
$858,996 of cash invested in property and equipment. These uses of cash were
partially offset by $1,974,670 of proceeds from the issuance of common stock
under the Company's employee stock option plans.
Cash used in operations was primarily related to operating losses and working
capital requirements. Property and equipment spending was primarily related to
purchases of computers, software, furniture and other equipment used principally
in research and development activities.
While there can be no assurance that the Company will not require additional
financing, or that such financing will be available to the Company, the Company
believes that its financial resources are adequate to meet its liquidity
requirements over the next twelve months.
YEAR 2000 COMPLIANCE
Many currently installed software products and computer systems are coded to
accept only two digit entries in the date code field. These date code fields
will need to accept four digit entries to distinguish 21st century dates from
20th century dates. The use of software and computer systems that are not Year
2000 compliant could result in system failures or miscalculations causing
disruptions of operations including, among other things, a temporary inability
to process transactions, send invoices or engage in similar normal business
activities. As a result, many companies' software and computer systems may need
to be upgraded or replaced in order to comply with Year 2000 requirements.
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The Company has implemented a program to consider and address Year 2000 issues.
A project team led by members of the Company's management is making a detailed
assessment of (i) software that the Company licenses to third parties and (ii)
software that the Company uses internally. The assessment is nearly complete and
the Company has begun implementing solutions to address Year 2000 issues that it
has identified.
Most of the software that the Company licenses to third parties is aimed at
transmitting or compressing data and is not date sensitive. The Company does
license some software that is date sensitive, which the Company believes is now
Year 2000 compliant. Although the Company believes the software it licenses is
either Year 2000 compliant or not affected by Year 2000 issues, the Company's
software is typically used in conjunction with other software and computer
systems supplied by third parties. The failure of other software or computer
systems to be year 2000 compliant when used in conjunction with the Company's
software could cause the entire application to perform improperly. Failure of
applications that contain the Company's software to be Year 2000 compliant could
result in fewer or no sales of those applications, which could have a material
adverse effect on the Company's business, financial condition and results of
operations.
The Company has reviewed the software it uses internally to determine whether it
is Year 2000 compliant. In those instances in which the software was not Year
2000 compliant, the Company is planning either to replace the software with Year
2000 compliant software or to obtain patches that will make the software Year
2000 compliant. The Company is in the process of obtaining and implementing the
replacement software and patches, a process which the Company expects to
complete in 1999. Based on the foregoing, the Company currently has no reason to
believe that its internal software systems will not be Year 2000 compliant.
To date, the Company has not incurred significant incremental costs in order to
comply with Year 2000 requirements and does not believe it will incur
significant incremental costs in the foreseeable future. However, there can be
no assurance that Year 2000 errors or defects will not be discovered in the
software the Company licenses or in its own internal software systems and, if
such errors or defects are discovered, there can be no assurance that the costs
of making such software Year 2000 compliant will not have a material adverse
effect on the Company's business, financial condition and results of operations.
Although the Company has assessed whether its internal software systems are Year
2000 compliant, it has not conducted a Year 2000 review of all of its vendors
and suppliers. Failure of systems maintained by the Company's vendors and
suppliers to operate properly with regard to the Year 2000 and thereafter could
require the Company to incur significant unanticipated expenses to remedy any
problems or replace affected vendors and suppliers which could have a material
adverse effect on the Company's business, financial condition and results of
operations.
RISK FACTORS
The Company believes that the occurrence of any one or some combination of the
following factors could have a material adverse effect on the Company's
business, financial condition and results of operations.
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History of Operating Losses; no Assurance of Profitability
The Company has incurred operating losses in every fiscal year since
inception. As of September 30, 1998, the Company's accumulated deficit was
approximately $17.6 million. The Company believes that substantial on-going
research and development expenses will be required to enhance its technology and
to meet contractual requirements with its customers. There can be no assurance
that the Company will achieve profitable operations in any future period.
Unpredictable and Fluctuating Operating Results
Because many of the Company's revenue components fluctuate and are
difficult to predict, and its expenses are largely independent of revenues in
any particular period, it is difficult for the Company to accurately forecast
revenues and profits or losses.
The Company's business is subject to a variety of additional risks that could
materially adversely affect quarterly and annual operating results, including
market acceptance of the Company's technology; systems companies' acceptance of
Aware-based chipsets produced by the Company's licensees; market acceptance of
the products of systems companies which have adopted the Company's technology;
the loss of any strategic relationships with systems companies or licensees;
announcements or introductions of new technologies or products by the Company or
the Company's competitors; delays or problems in the introduction or performance
of enhancements or future generations of the Company's technology; fluctuations
in the market price and demand for chipsets into which the Company's technology
has been incorporated; competitive pressures resulting in lower contract
revenues or royalty rates; changes in the Company's and system companies'
development schedules and levels of expenditure on research and development;
personnel changes, particularly those involving engineering and technical
personnel; costs associated with protecting the Company's intellectual property;
changes in Company strategies; and general economic trends and other factors.
Dependence on Acceptance of DSL Technology
The Company's future success is substantially dependent upon whether DSL
technology gains widespread commercial acceptance by the telephone companies
("telcos") and end users of telco services. Although a global standard has been
determined for splitterless DSL-Lite, the G.992.2 International
Telecommunications Union standard, as well as for full-rate ADSL (G.992.1),
telcos continue to evaluate DSL technology, and there can be no assurance that
the telcos will pursue the deployment of such technology. The Company believes
that volume deployment of DSL technology and equipment will not commence before
the end of 1998, if at all.
Dependence Upon Limited Number of Licensees
The Company neither manufactures nor sells equipment containing its DSL
technology in any meaningful volume. Rather, the Company licenses its technology
to semiconductor and systems companies that incorporate Aware technology into
DSL chipsets and systems. There can be no assurance that the Company will be
successful in maintaining its relationships with its current licensees or in
entering into new relationships with additional licensees. The Company faces
numerous risks in successfully obtaining licensees on terms consistent with the
Company's business model, including, among others, the lengthy and expensive
process of building a relationship with a potential licensee before there is any
assurance of a license agreement with such party; persuading large semiconductor
and systems companies to work with and rely on Aware for critical technology;
persuading potential licensees to bear certain development costs associated with
Aware technology
13
<PAGE> 14
and to make the necessary investment to successfully produce Aware-based
chipsets and systems; and successfully transferring technical know-how to
licensees. In addition, there are a relatively limited number of larger
semiconductor and systems companies to which the Company could license its DSL
technology in a manner consistent with its business model. There can be no
assurance that customers will not use their superior size and bargaining power
to demand license terms that are unfavorable to the Company. The Company
believes that its principal competition may come from its licensees and
prospective licensees, many of which are evaluating and developing products
based on alternative technologies.
Dependence Upon Systems Companies
Although sales of Aware-based chipsets to systems companies that have adopted
the Company's technology for their products are not made directly by the
Company, such sales directly affect the amount of royalties received by the
Company. Therefore, the Company's success is substantially dependent upon the
adoption of the Company's DSL technology by systems companies, particularly
those which develop and market high-volume business and consumer products such
as central office line cards, modems and personal computers. The Company is
subject to many risks beyond its control that influence the success or failure
of a particular systems company, including among others competition faced by the
systems company in its particular industry; market acceptance of the systems
company's products; the engineering, sales and marketing, and management
capabilities of the systems company; technical challenges unrelated to Aware
technology faced by the systems company in developing its products; and the
financial and other resources of the systems company. The process of persuading
systems companies to adopt the Company's technology can be lengthy and, even if
adopted, there can be no assurance that the Aware technology will be used in a
product that is ultimately brought to market, achieves commercial acceptance or
results in significant royalties to the Company. Aware must dedicate substantial
resources to market its technologies to and to support systems companies, in
addition to supporting the sales and marketing and technical efforts of its
licensees in promoting Aware technology to systems companies. The Company's
royalty revenue is often based on the selling prices of its licensees' products.
The Company has little or no control over such selling prices or the efforts the
licensees use to promote such products. Failure of the Company's licensees to
achieve significant sales of these products could have a material adverse effect
on the Company's business, financial condition and results of operations.
Proprietary Technology; Risk of Third Party Claims of Infringement
The Company's ability to compete effectively will depend to a significant
extent on its ability to protect its proprietary information and to operate
without infringing the intellectual property rights of others. Despite the
precautions the Company has taken to protect its intellectual property, there
can be no assurance that such steps will be adequate to prevent the
misappropriation of its technology. In addition, third parties may assert
exclusive patent, copyright and other intellectual property rights to
technologies that are important to the Company. There can be no assurance that
other third parties will not assert such claims against the Company in the
future.
Rapid Technological Change; Reliance on Fundamental Technology; Importance
of Timely New Product Development
The semiconductor industry is characterized by rapid technological change,
with new generations of semiconductors being introduced periodically and with
ongoing evolutionary improvements. Since 1995, the Company has derived a
substantial portion of its revenue from its DSL technology and expects that this
dependence on its fundamental technology will continue for
14
<PAGE> 15
the foreseeable future. Accordingly, broad acceptance of the Company's DSL
technology is critical to the Company's future success. The introduction or
market acceptance of competing technology which renders the Company's DSL
technology less desirable or obsolete would have a rapid and material adverse
effect on the Company's business, results of operations and financial condition.
The announcement of new technologies by the Company could cause licensees or
systems companies to delay or defer entering into arrangements for the use of
the Company's technology, which could have a material adverse effect on the
Company's business, financial condition and results of operations.
The Company's operating results will depend to a significant extent on its
ability to introduce enhancements and new generations of its DSL technology
which keep pace with other changes in the semiconductor and telecommunications
industries and which achieve rapid market acceptance. The Company must
continually devote significant engineering resources to addressing the
ever-increasing need for technical innovations. Technical innovations of the
type that will be required for the Company to be successful are inherently
complex and require long development cycles, and there can be no assurance that
the Company's development efforts will ultimately be successful. In addition,
these innovations must be completed before changes in the semiconductor and
telecommunications industries have rendered them obsolete, must be available
when systems companies require them, and must be sufficiently compelling to
cause semiconductor and systems companies to enter into licensing arrangements
with Aware for the new technology. There can be no assurance that Aware will be
able to meet these requirements. Moreover, significant technological innovations
generally require a substantial investment before their commercial viability can
be determined. There can be no assurance that the Company will have the
financial resources necessary to fund future development, that the Company's
licensees will continue to share certain research and development costs with the
Company as they have in the past, or that revenues from enhancements or new
generations of the Company's technology, even if successfully developed, will
exceed the costs of development.
Competition
The semiconductor and telecommunications industries are intensely
competitive and have been characterized by price erosion, rapid technological
change, short product life cycles, cyclical market patterns and increasing
foreign and domestic competition. Many of the Company's competitors and
potential competitors have significantly greater financial, technological,
manufacturing, marketing and personnel resources than the Company. The Company
believes that its principal competition may come from its licensees and
prospective licensees, many of which are evaluating and developing products
based on alternative technologies. There can be no assurance that the Company
will be able to compete successfully or that competition will not adversely
affect the Company's business.
Dependence on Hiring and Retaining Personnel
The Company believes that its future success will depend significantly on
its ability to attract, motivate and retain additional highly skilled technical,
managerial and marketing personnel. During 1997 and the first nine months of
1998, the Company experienced difficulty in hiring all of the additional highly
qualified engineers it had contemplated in its business plans. Competition for
such personnel is intense, and there can be no assurance that the Company will
be successful in attracting, assimilating and retaining the personnel required
to grow and operate profitably.
15
<PAGE> 16
Manufacturing
While the Company believes that product revenue will decline as a
percentage of total revenue in the future, it will continue to manufacture
products. The Company has limited experience in manufacturing or in supervising
the manufacture of its products, including its ADSL modems, modules, and
development systems. In 1997, the Company entered into an agreement with a third
party contract manufacturer to supply substantially all finished goods products
to the Company. There can be no assurance that the Company's relationship with
its contract manufacturer will be successful or, in the event that the
relationship is not successful, that the Company would be able to find a
substitute contract manufacturer without significant delays. Furthermore, there
can be no assurance that the Company or its contract manufacturer will not
encounter significant difficulties in manufacturing or controlling the quality
of its products, or that its products will be reliable in the field.
In an environment of rapid technological change and rapidly changing product
offerings, product cycles tend to be short, and therefore, the Company may need
to write-off excess and obsolete inventory from time-to-time. For the year ended
1997 and the first nine months of 1998, the Company recorded provisions for
excess and obsolete inventory of $275,000 and $225,000, respectively.
Volatility of Stock Price
The trading price of the Company's Common Stock could be subject to wide
fluctuations in response to quarterly variations in operating results,
announcements of technological innovations or new products by the Company, its
licensees or its competitors, developments with respect to industry standards,
patents or proprietary rights and other events or factors. The trading price of
the Company's Common Stock could also be subject to wide fluctuations in
response to the publication of reports and changes in financial estimates by
securities analysts, and it is possible that the Company's actual results in one
or more future periods will fall short of those estimates by securities
analysts. In addition, the equity markets have experienced volatility that has
particularly affected the market prices of equity securities of many high
technology companies and that often has been unrelated or disproportionate to
the operating performance of such companies. These broad market fluctuations may
adversely affect the market price of the Company's Common Stock.
Year 2000
See "Year 2000 Compliance" above for a description of the risks the Company
faces in connection with Year 2000 issues.
16
<PAGE> 17
PART II. OTHER INFORMATION
ITEM 1:
LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company is a
party or to which any of its properties are subject which, either individually
or in the aggregate, are expected by the Company to have a material adverse
effect on its business, financial position or results of operations.
ITEM 2:
CHANGES IN SECURITIES AND USE OF PROCEEDS
(d) Use of Proceeds
The Company sold 3,910,000 shares of the Company's Common Stock, par value
$.01 per share, on August 14, 1996 and September 9, 1996, pursuant to a
Registration Statement on Form S-1 (File No. 333-06807), which was declared
effective by the Securities and Exchange Commission on August 8, 1996 (the
"Effective Date"). The managing underwriters of the offering were BancBoston
Robertson Stephens Inc. and ING Barrings Furman Selz LLC. The aggregate gross
proceeds of the offering were $39,100,000. The Company's total expenses in
connection with the offering were $3,937,000, of which $2,737,000 was for
underwriting discounts and commissions and $1,200,000 was for other expenses
paid to persons other than directors or officers of the Company, persons owning
more than 10 percent of any class of equity securities of the Company, or
affiliates of the Company (collectively, "Affiliates"). The Company's net
proceeds from the offering were $35,163,000. From the Effective Date through
September 30, 1998, the Company used a portion of the net proceeds as follows:
(i) approximately $12,260,000 to purchase property and equipment, including a
commercial office building, which the Company now uses as its headquarters,
computers, software, furniture and other equipment and (ii) approximately
$4,996,000 to fund operating losses and working capital requirements. None of
these payments was made to Affiliates. As of September 30, 1998 the Company had
approximately $17,907,000 of proceeds remaining from the offering, and pending
use of the proceeds, the Company intends to invest such proceeds primarily in
short-term, interest-bearing, investment-grade securities, including money
market instruments.
17
<PAGE> 18
PART II. OTHER INFORMATION
ITEM 6:
EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
Exhibit 11.1* -- Computation of Net Loss per Share
(b) REPORTS ON FORM 8-K
None.
- ------------------------
* filed herewith
SIGNATURES
Pursuant to the requirements 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.
AWARE, INC.
Date: November 6, 1998 By: /s/ Michael A. Tzannes
---------------------
Michael A. Tzannes, Chief Executive
Officer and President
Date: November 6, 1998 By: /s/ Richard P. Moberg
---------------------
Richard P. Moberg, Vice President and
Chief Financial Officer (Principal Financial
and Accounting Officer)
18
<PAGE> 1
EXHIBIT 11.1
AWARE, INC.
COMPUTATION OF BASIC AND DILUTED
NET LOSS PER SHARE
<TABLE>
<CAPTION>
Three Months Ended
September 30,
-----------------------------
1998 1997
------------ -------------
<S> <C> <C>
Net loss ................................................................. $ (77,772) $(2,145,946)
=========== ===========
Weighted average number of common shares outstanding:
Common stock ........................................................ 20,636,604 19,430,032
Other ............................................................... -- --
---------- -----------
Common shares outstanding for purpose of calculating basic
net loss per share ........................................ 20,636,604 1 9,430,032
Common stock equivalents to reflect dilution:
Option common stock equivalent shares ............................. -- --
----------- -----------
Total shares for purpose of calculating diluted net
loss per share ................................................ 20,636,604 19,430,032
========== ===========
Basic net loss per share ................................................. $ (0.00) $ (0.11)
========== ============
Diluted net loss per share ............................................... $ (0.00) $ (0.11)
========== ============
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
-----------------------------
1998 1997
------------ -------------
<S> <C> <C>
Net loss ................................................................. $(2,824,187) $(2,697,646)
============ ===========
Weighted average number of common shares outstanding:
Common stock ........................................................ 20,192,611 19,257,651
Other ............................................................... -- --
----------- -----------
Common shares outstanding for purpose of calculating basic
net loss per share ........................................ 20,192,611 19,257,651
Common stock equivalents to reflect dilution:
Option common stock equivalent shares ............................. -- --
----------- -----------
Total shares for purpose of calculating diluted net
loss per share ................................................ 20,192,611 19,257,651
=========== ===========
Basic net loss per share ................................................. $ (0.14) $ (0.14)
=========== ===========
Diluted net loss per share ............................................... $ (0.14) $ (0.14)
=========== ===========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<RESTATED>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 24,825
<SECURITIES> 0
<RECEIVABLES> 2,109
<ALLOWANCES> 100
<INVENTORY> 224
<CURRENT-ASSETS> 264
<PP&E> 13,036
<DEPRECIATION> 2,452
<TOTAL-ASSETS> 37,906
<CURRENT-LIABILITIES> 1,135
<BONDS> 0
207
0
<COMMON> 0
<OTHER-SE> 36,564
<TOTAL-LIABILITY-AND-EQUITY> 37,906
<SALES> 1,281
<TOTAL-REVENUES> 7,782
<CGS> 1,136
<TOTAL-COSTS> 1,136
<OTHER-EXPENSES> 10,759
<LOSS-PROVISION> 60
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (2,824)
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,824)
<EPS-PRIMARY> (0.14)
<EPS-DILUTED> (0.14)
</TABLE>
