<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
------------------
OR
[_] TRANSITION REPORT PURSUANT SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________________ to ____________________
Commission file number: 000-24597
CARRIER ACCESS CORPORATION
--------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 84-1208770
-------- ----------
(STATE OR OTHER JURISDICTION OF INCORPORATION (I.R.S. EMPLOYER
OR ORGANIZATION) IDENTIFICATION NO.)
5395 PEARL PARKWAY, BOULDER, CO 80301
--------------------------------------
(Address of principal executive offices)
(Zip Code)
(303) 442-5455
--------------
(Registrant's telephone number, including area code)
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____
---
The number of shares outstanding of the issuer's common stock, par value $0.001,
as of October 31, 1998 was 23,620,104 shares.
Page 1 of 19
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CARRIER ACCESS CORPORATION
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PART I FINANCIAL INFORMATION Page No.
--------
<S> <C> <C> <C>
Item 1. Financial Statements
Condensed Balance Sheets -- September 30, 1998 (unaudited) and December 31, 1997 3
Condensed Income Statements (unaudited) -- Three and Nine Months Ended
September 30, 1998 and 1997 4
Condensed Statements of Cash Flows (unaudited) -- Nine Months Ended
September 30, 1998 and 1997 5
Notes to Condensed Financial Statements (unaudited) 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 7
PART II OTHER INFORMATION
Item 1. Legal Proceedings 18
Item 2. Changes in Securities and Use of Proceeds 18
Item 4. Submission of Matters to a Vote of Security Holders 18
Item 6. Exhibits and Reports on Form 8-K 18
Signature 19
</TABLE>
Page 2 of 19
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CARRIER ACCESS CORPORATION
CONDENSED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30,
1998 DECEMBER 31,
(UNAUDITED) 1997
---------------- ----------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 32,376 $ 6,104
Securities available for sale 16,735 2,516
Accounts receivable, net 7,212 4,645
Inventory, net 6,176 6,784
Deferred income taxes 463 237
Prepaid expenses and other current assets 672 91
---------------- ----------------
Total current assets 63,634 20,377
Property and equipment, net 2,294 1,267
Other assets 63 36
---------------- ----------------
Total assets $ 65,991 $ 21,680
================ ================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 5,696 $ 3,762
Income taxes payable 679 ---
---------------- ----------------
Total current liabilities 6,375 3,762
---------------- ----------------
Redeemable preferred stock --- 17,358
---------------- ----------------
Stockholders' equity:
Common stock and additional paid-in-capital 59,968 1,315
Deferred stock option compensation (2,706) (1,144)
Retained earnings 2,354 389
---------------- ----------------
Total stockholders' equity 59,616 560
---------------- ----------------
Total liabilities and stockholders' equity $ 65,991 $ 21,680
================ ================
The accompanying notes are an integral part of these condensed financial statements.
</TABLE>
Page 3 of 19
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CARRIER ACCESS CORPORATION
CONDENSED INCOME STATEMENTS (UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
------------------------------------ ------------------------------------
September 30, September 30, September 30, September 30,
1998 1997 1998 1997
---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Net revenue $ 13,675 $ 5,636 $ 29,967 $ 12,128
Cost of goods sold 6,748 2,752 15,029 5,983
---------------- ---------------- ---------------- ----------------
Gross profit 6,927 2,884 14,938 6,145
---------------- ---------------- ---------------- ----------------
Operating expenses:
Research and development 1,510 923 3,555 1,695
Sales and marketing 1,708 615 3,703 1,575
General and administrative 876 456 2,145 1,062
Amortization of deferred stock
compensation 205 40 484 40
---------------- ---------------- ---------------- ----------------
Total operating expenses 4,299 2,034 9,887 4,372
---------------- ---------------- ---------------- ----------------
Income from operations 2,628 850 5,051 1,773
Other income, net 399 18 707 22
---------------- ---------------- ---------------- ----------------
Income before income taxes 3,027 868 5,758 1,795
Income tax expense 1,150 273 2,207 563
---------------- ---------------- ---------------- ----------------
Net income 1,877 595 3,551 1,232
Preferred stock dividend requirement (270) (216) (1,586) (500)
---------------- ---------------- ---------------- ----------------
Net income available to common stockholders $ 1,607 $ 379 $ 1,965 $ 732
================ ================ ================ ================
Income per share:
Basic $ 0.08 $ 0.03 $ 0.12 $ 0.05
Diluted $ 0.07 $ 0.03 $ 0.11 $ 0.05
Weighted average common shares
Basic 20,605 14,139 16,597 14,107
Diluted 21,806 14,234 17,280 14,238
The accompanying notes are an integral part of these condensed financial statements.
</TABLE>
Page 4 of 19
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CARRIER ACCESS CORPORATIONCONDENSED
STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------
1998 1997
-------------- -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 3,551 $ 1,232
Adjustments to reconcile net income to net
cash provided by (used in) operating activities:
Depreciation and amortization expense 316 112
Provision for doubtful accounts and returns 149 238
Provision for inventory obsolescence 160 ---
Compensation expense related to stock options issued at
less than fair value 484 40
Deferred income tax benefit (226) (90)
Changes in operating assets and liabilities:
Accounts receivable (2,715) (3,792)
Inventory 448 (2,296)
Prepaid expenses and other (608) (286)
Accounts payable and accrued expenses 1,934 1,753
Income taxes payable 679 563
-------------- -------------
Net cash provided (used) by operating activities 4,172 (2,526)
-------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (1,343) (461)
Purchases of securities available for sale, net (14,219) ---
-------------- -------------
Net cash used by investing activities (15,562) (461)
-------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on short-term borrowings --- (249)
Proceeds from issuance of preferred stock, net --- 12,514
Proceeds from issuance of common stock 37,662 38
Distributions to stockholders --- (48)
-------------- -------------
Net cash provided by financing activities 37,662 12,255
-------------- -------------
Net increase in cash and cash equivalents 26,272 9,268
Cash and cash equivalents at beginning of period 6,104 929
-------------- -------------
Cash and cash equivalents at end of period $ 32,376 $ 10,197
============== =============
SUPPLEMENTAL CASH FLOW DISCLOSURES:
Cash paid for interest --- $ 22
Cash paid for income taxes $ 1,703 $ 461
SUPPLEMENTAL INFORMATION ON NON-CASH FINANCING ACTIVITIES:
Conversion of preferred stock into common stock $ 18,944 ---
The accompanying notes are an integral part of these condensed financial statements.
</TABLE>
Page 5 of 19
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CARRIER ACCESS CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business and Basis of Presentation
Carrier Access Corporation ("CAC" or the "Company") is a leading provider of
multi-service digital access ("MDA") equipment to competitive telecommunications
carriers, including competitive local exchange carriers ("CLECs"), internet
service providers ("ISPs") and wireless carriers. The Company's MDA equipment
is used for the provisioning of enhanced voice and high-speed data services by
carriers to end users such as small- and medium-sized businesses and government
and educational institutions. The Company sells its products mainly through
distributors.
The accompanying unaudited financial statements of CAC have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Rule 10-01 of Regulation
S-X. Accordingly, they do not contain all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. However, in the opinion of management, such statements reflect all
adjustments, consisting of only normal recurring adjustments, necessary for a
fair presentation of interim period results. These financial statements should
be read in conjunction with the financial statements and notes thereto included
in the Company's Registration Statement on Form S-1 as declared effective by the
Securities and Exchange Commission on July 30, 1998 (the "IPO Registration
Statement") for its initial public offering of Common Stock (the "IPO.")
The results of operations for the interim periods are not necessarily indicative
of results to be expected for the entire year or for other future interim
periods.
NOTE 2. INVENTORY
The components of inventory are as follows (in thousands):
September 30, December 31,
1998 1997
------------- ------------
Raw materials $ 3,172 $ 3,320
Work-in-process 922 351
Finished goods 2,242 3,113
------------- ------------
6,336 6,784
Less: reserve for obsolescence (160) ---
------------- ------------
$ 6,176 $ 6,784
============= ============
NOTE 3. STOCKHOLDERS' EQUITY AND REDEEMABLE PREFERRED STOCK
On August 5, 1998, the Company completed its IPO of 3,000,000 shares of Common
Stock, and on August 11, 1998 completed the 450,000 share over-allotment
purchase by the underwriters, both at the IPO price of $12.00 per share. The
IPO resulted in net proceeds of approximately $37.6 million. Aggregate offering
costs were approximately $3.8 million.
On August 5, 1998, in conjunction with the Company's IPO, 1,210,861 shares of
Series A preferred stock and 2,517,894 shares of Series B preferred stock with a
liquidation value of $2.86 and $4.99 per share, respectively, were converted
into Common Stock. The conversion gave effect to a three-for-two forward split,
resulting in the issuance of 5,593,133 shares of Common Stock to the preferred
stockholders.
As a result of the Company's IPO, exercise of the over-allotment option, the
conversion of the Redeemable Preferred Stock and the exercise of certain stock
options by employees, the Company has 23,620,104 shares of Common Stock
outstanding at September 30, 1998.
Page 6 of 19
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Notice Concerning Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements that have
been made pursuant to the provisions of the Private Securities Litigation Reform
Act of 1995. Such forward-looking statements are based on current expectations,
estimates and projections about CAC's industry, management's beliefs, and
assumptions made by management. Words such as "anticipates," "expects,"
"intends," "plans," "believes," "seeks," "estimates," variations of such words
and similar expressions are intended to identify such forward-looking
statements. These statements are not guarantees of future performance and are
subject to certain risks, uncertainties and assumptions that are difficult to
predict; therefore, actual results and outcomes may differ materially from what
is expressed or forecasted in any such forward-looking statements. Such risks
and uncertainties include those set forth herein under "Risk Factors."
Particular attention should be paid to the cautionary language in "Risk Factors"
under the headings "Significant Fluctuations in Results of Operations,"
"Dependence on Emerging Competitive Carriers," "Intense Competition,"
"Dependence on Distribution Channels," "Competitive Carrier Customer
Concentration," "Possible Decline in Prices," and "Risks Associated with
Manufacturing." Unless required by law, CAC undertakes no obligation to update
publicly any forward-looking statements, whether as a result of new information,
future events or otherwise.
RESULTS OF OPERATIONS
SUMMARY
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
(In thousands, except per share amounts) September 30, September 30,
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net revenue 13,675 5,636 29,967 12,128
Operating income 2,628 850 5,051 1,773
Net income available to common 1,607 379 1,965 732
stockholders
Income per share (diluted) $ 0.07 $ 0.03 $ 0.11 $ 0.05
</TABLE>
For the three months ended September 30, 1998, CAC's net income and operating
income increased to $1.6 million and $2.6 million, respectively, compared to
$379,000 and $850,000 for the three months ended September 30, 1997. For the
nine months ended September 30, 1998, CAC's net income and operating income
increased to $2.0 million and $5.1 million, respectively, compared to $732,000
and $1.8 million for the nine months ended September 30, 1997. These increases
were due primarily to a significant increase in the sales of CAC products,
reflecting the introduction of new products and increased sales of existing
products. CAC's gross margin on net revenue was 51% and 50% for the three
months and nine months ended September 30, 1998, respectively, compared to 51%
for both the three months and nine months ended September 30, 1997. Contributing
to higher net income for both 1998 periods was a substantial increase in other
revenues, primarily reflecting an increase in interest income on the
proceeds of the IPO.
NET REVENUE AND COST OF GOODS SOLD
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
(Dollars in thousands) 1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net revenue 13,675 5,636 29,967 12,128
Cost of goods sold 6,748 2,752 15,029 5,983
</TABLE>
Net revenue for the three months and nine months ended September 30, 1998
increased to $13.7 million and $30.0 million, respectively, compared to $5.6
million and $12.1 million for the same periods of 1997. These increases were
attributable to the introduction of new products, primarily the Wide Bank, Wide
Bank NEBS and Access Bank II/HDSL product families, along with increases in the
sales of existing CAC products to distributors. The timing and quantities of
orders for CAC products may vary from quarter to quarter in the future due to
factors such as demand for the products, ordering patterns of distributors, and
the introduction and sale of competing products.
During the three and nine month periods ended September 30, 1998, most of the
sales of the Company's products were made through distributors, and the
Company's success depends on the continued sales and customer support efforts of
its network of distributors. In the first nine months of 1998, Walker &
Associates, Phillips Communications and Equipment and Telsource Corporation
accounted for 40%, 17% and 15%, respectively, of net revenue. The Company
expects that the sale of its products will continue to be made to a small number
of distributors. Accordingly, the loss of, or a reduction in sales to, any of
the Company's key distributors could have a material adverse effect on the
Company's business, financial condition or results of operations. In addition
to being dependent on a small number of distributors for a majority of its net
revenue, the Company believes that its products are distributed to a limited
number of competitive carrier customers who are primarily CLECs. In the three
months ended September 30, 1998, the Company believes that two of these
competitive carrier end user customers each accounted for more than 10% of its
net revenue. Finally, the Company expects to experience some seasonality in the
fourth quarter of 1998, which could adversely impact net revenue in that
quarter.
Page 7 of 19
<PAGE>
Costs of goods sold increased to $6.7 million for the three months ended
September 30, 1998 compared to $2.8 million for the corresponding three month
period of 1997. Cost of goods sold increased to $15.0 million for the nine
months ended September 30, 1998 compared to $6.0 million for the nine months
ended September 30, 1997. These increases were primarily attributable to
increased product shipments partially offset by cost reductions in existing
product platforms.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Gross margin 51% 51% 50% 51%
</TABLE>
The decrease in CAC 's gross margin in the nine months ended September 30, 1998,
compared to the same period of 1997, was primarily due to changes in the mix of
products sold.
The Company believes that average selling prices and gross margins for its
products will decline as such products mature, as volume price discounts in
distributor contracts take effect and as competition intensifies, among other
factors. In addition, discounts to distributors vary among product lines and
are based on volume shipments, both of which affect gross margins. The
Company's gross margin for its Access Bank product family is higher than the
gross margin for its Wide Bank product family. The Company believes that its
gross margins are likely to fluctuate in the future based on product mix and
channel mix. Margins will also likely be adversely effected from time to time
by new product introductions.
RESEARCH AND DEVELOPMENT EXPENSES
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
(Dollars in thousands) 1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Research and development expenses 1,510 923 3,555 1,695
Percentage of net revenue 11% 16% 12% 14%
</TABLE>
Research and development expenses increased to $1.5 million and $3.6 million in
the three months and nine months ended September 30, 1998, respectively,
compared to $923,000 and $1.7 million for the same periods in 1997. This
increase in each period was primarily due to an increase in the number of
personnel engaged in the development of new products. The Company expects the
amount of research and development expenses will increase at a faster rate in
fourth quarter 1998 and first quarter 1999 to fund the development of new
products and enhancements.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
(Dollars in thousands) 1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Sales and marketing expenses 1,708 615 3,703 1,575
General and administrative expenses 876 456 2,145 1,062
----- ----- ----- -----
Total selling, general and 2,584 1,071 5,848 2,637
administrative expenses
As a percentage of net revenue 19% 19% 20% 22%
</TABLE>
Selling, general and administrative expenses increased to $2.6 million and $5.8
million for the three months and nine months ended September 30, 1998,
respectively, from $1.1 million and $2.6 million for the same periods of 1997.
These increases in sales and marketing expenses in each period were the result
of CAC's expanded sales and marketing activities and an increase in the size of
the sales force and a corresponding increase in sales salaries and commissions
since the three months ended September 30, 1997. The increase in general and
administrative expenses in the three months and nine months ended September 30,
1998 compared with the same periods of 1997 was due to the addition of personnel
and facilities costs necessary to support the expansion of CAC's business. The
Company has hired and intends to continue to hire additional sales and marketing
personnel and to continue to aggressively pursue sales and marketing campaigns,
and therefore expects these expenses to increase in absolute dollars in the
future. The Company also expects general and administrative expenses to
increase in absolute dollars as the Company continues to add personnel and
incurs additional costs related to the expansion of its business and operation
as a public company.
Page 8 of 19
<PAGE>
<TABLE>
<CAPTION>
OTHER INCOME
Three Months Ended Nine Months Ended
September 30, September 30,
(In thousands)
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest and other income 399 18 707 22
</TABLE>
Interest and other income increased to $399,000 and $707,000 for the three
months and nine months ended September 30, 1998, respectively, compared to
$18,000 and $22,000 for the same periods in 1997, due to higher cash balances
as a result of the IPO.
INCOME TAXES
For the three months and nine months ended September 30, 1998, CAC 's effective
combined federal and state income tax rate was 38%, compared to 31% for the
three months and nine months ended September 30, 1997. CAC's annual effective
tax rate for 1997 was 31% due to the research and development tax credits and
the utilization of all tax loss carryforwards.
LIQUIDITY AND CAPITAL RESOURCES
September 30, December 31,
(In thousands) 1998 1997
------------------ --------------
Working capital 57,259 16,615
Cash, cash equivalents and securities 49,111 8,620
Total assets 65,991 21,680
Nine Months Ended
September 30, September 30,
(In thousands) 1998 1997
----- ----
Net cash provided (used) by:
Operating activities 4,172 (2,526)
Investing activities (15,562) (461)
Financing activities 37,662 12,255
Net cash provided by operating activities for the nine months ended September
30, 1998 totaled approximately $4.2 million, while approximately $2.5 million of
net cash was used by operating activities for the nine months ended September
30, 1997. Cash provided by operating activities in the nine month period of
1998 was primarily due to net income and increases in accounts payable and other
accrued liabilities, partially offset by increases in accounts receivable. Cash
used by operating activities in the same period of 1997 was primarily due to
increases in inventory and accounts receivable, partially offset by net income
and increases in accounts payable.
The Company's inventory levels decreased to approximately $6.2 million at
September 30, 1998 from approximately $6.8 million at December 31, 1997, due
mostly to the Company's use of turnkey manufacturing for certain of its
components and subassemblies.
Cash used by investing activities was approximately $15.6 million for the nine
months ended September 30, 1998 and approximately $461,000 for the nine months
ended September 30, 1997. Cash and cash equivalents used by investing activities
was primarily a result of purchasing U.S. Government Agency and Corporate bonds
with maturities greater than three months. CAC's capital expenditures for the
nine months ended September 30, 1998 were $1.3 million for additions to
facilities and equipment to support its research, development and manufacturing
activities, compared to $461,000 for the same period of 1997. CAC believes its
current facilities and equipment are not sufficient to meet its current
operating requirements. Accordingly, the Company is in negotiation to secure an
additional 38,000 square foot manufacturing facility which will require tenant
improvements and is expanding its existing facilities to support its future
requirements. Capital expenditures during the remainder of 1998 are expected to
continue to increase over 1997 levels.
Cash provided by financing activities was approximately $37.7 million and $12.3
million for the nine months ended September 30, 1998 and 1997, respectively.
Cash provided by financing activities was primarily due to net proceeds from the
issuance of Common Stock in the Company's IPO during the nine months ended
September 30, 1998, and net proceeds from the issuance of preferred stock during
the nine months ended September 30, 1997.
CAC believes that its existing cash, investment balances, and its line of credit
are adequate to fund its projected working capital and capital expenditure
requirements for at least the next 12 months. Although operating activities may
provide cash in certain periods, to the extent the Company experiences growth in
the future, it anticipates that its operating and investing activities may use
cash. Should the need arise, CAC believes it would be able to borrow additional
funds or otherwise raise additional capital; however, there can be no assurance
that additional funds or capital will be available in adequate amounts and on
terms reasonably acceptable to the Company. CAC may consider using its capital
to make
Page 9 of 19
<PAGE>
strategic investments or to acquire or license technology or products. The
Company may also enter into strategic alliances with third parties that could
provide access to additional capital.
RECENT PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, (collectively referred to as
derivatives) and for hedging activities. This statement will be effective for
all annual and interim periods beginning after June 15, 1999.
In June 1997, SFAS No. 131, "Disclosures about Segments of an Enterprise and
Related Information" was issued. It establishes standards for the way that
public enterprises report information about operating segments in annual
financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports to
stockholders. It also establishes standards for related disclosures about
products and services, geographic areas, and major customers.
In June 1997, SFAS No. 130, "Reporting Comprehensive Income" was issued. It
establishes standards for reporting and display of comprehensive income and its
components in a full set of general-purpose financial statements.
The Company's management does not believe the adoption of any of these standards
will have a material effect on its financial statements.
THE YEAR 2000 ISSUE
THE PROBLEM. The Year 2000 Issue is the result of computer programs being
written using two digits rather than four to define the applicable year. As a
result, any of the Company's computer programs (or those of its suppliers or
customers) that have date sensitive software may recognize a date using "00" as
the year 1900 rather than the year 2000, which, in turn, could result in system
failures or miscalculations causing disruptions in the operations of the Company
and its suppliers and customers.
THE COMPANY'S STATE OF READINESS. The Company has established a Year 2000
Project team. As part of the Company's Year 2000 Project, the Company has
defined three specific areas for review: (i) the Multi-service Digital Access
equipment produced by the Company (the "Company's Products") (ii) the Company's
network hardware and operating system, test equipment, voice mail system, e-mail
system, and accounting and manufacturing software (the "Management Systems") and
(iii) the management systems of the Company's vendors, suppliers and customers
("Third Party Compliance"). In order to ensure that the Company will have
sufficient time to address any Year 2000 related issues and to implement any
necessary modifications, the Company is establishing schedules to evaluate the
Year 2000 readiness of potentially impacted Company Products, Management Systems
and Third Party Compliance.
CAC believes that the core functionality of the Company's Products is not
affected by the Year 2000 Issue. The Company's Products do contain an event log
to track the date and time a system disruption occurs for evaluation purposes.
However, the Company believes that there should be no Year 2000 Issues for its
products.
The Company is in the process of evaluating its Management Systems and currently
intends to complete the evaluations by January 1999. Should the evaluations
reveal that the Management Systems do have Year 2000 compliance issues, then
these resources will either need to be replaced or upgraded. However, the
identified systems and/or programs used by CAC are "off-the-shelf" products with
Year 2000 compliant versions now available. Management Systems which are
identified to have Year 2000 Issues will be upgraded in 1999.
As part of the Company's Year 2000 Project, the Company is also evaluating Third
Party Compliance and in furtherance thereof has contacted its significant
suppliers, vendors and large customers to determine the extent to which the
Company is vulnerable to those third parties' failure to remediate their Year
2000 compliance issues. The Company will continue to monitor its significant
suppliers and large customers as part of its Year 2000 Project. However, there
can be no assurance that the systems of third parties on which the Company's
business relies will be timely converted, or that CAC's failure to transition to
another third party, or a conversion that is incompatible with the Company's
systems, would not have a material adverse effect on the Company and its
operations.
THE COSTS TO ADDRESS THE COMPANY'S YEAR 2000 ISSUES. Expenditures as of
September 30, 1998 for the Year 2000 Project were approximately $5,000.
Management expects that completion of its Year 2000 Project may result in
additional expenditures of approximately $50,000.
THE RISKS ASSOCIATED WITH THE COMPANY'S YEAR 2000 ISSUES. The Company's failure
to resolve Year 2000 Issues on or before December 31, 1999 could result in
system failures or miscalculations causing disruption in operations, including,
among other things, a temporary inability to process transactions, send
invoices, send and/or receive e-mail and voice mail, or engage in similar normal
business activities. Additionally, failure of third parties upon whom the
Company's business relies to timely remediate their Year 2000 Issues could
result in disruptions in the Company's supply of parts and materials, late,
missed or unapplied payments, temporary disruptions in order processing and
other general problems related to the Company's daily operations. While the
Company believes its Year 2000 Project will adequately address the Company's
internal Year 2000 Issues, until the Company receives responses from a
significant number of the Company's suppliers and customers, the overall risks
associated with the Year 2000 Issue remain difficult to accurately describe and
quantify, and there can be no assurance that the Year 2000 Issue will not have a
material adverse effect on the Company and its operations.
Page 10 of 19
<PAGE>
THE COMPANY'S CONTINGENCY PLAN. The Company has not, to date, implemented a Year
2000 contingency plan. It is the Company's goal to have the major Year 2000
Issues resolved by the end of the first quarter of the fiscal year 1999. Final
Year 2000 verification and validation is scheduled to occur by the end of March,
1999. However, the Company will develop and implement a contingency plan if
Year 2000 Issues can not be resolved.
RISK FACTORS
In addition to other information in this Report, the following risk factors
should be considered carefully in evaluating the Company and its business.
LIMITED OPERATING HISTORY; FUTURE RESULTS OF OPERATIONS UNCERTAIN - The Company
did not commence commercial deployment of its distributed digital access
equipment until the summer of 1995. Accordingly, the Company has only a limited
operating history on which to base an evaluation of its current business and
prospects. The Company and its prospects must be considered in light of the
risks, uncertainties and difficulties frequently encountered by companies in an
early stage of development, particularly companies in new and rapidly evolving
markets. As a result of the Company's limited operating history, rapid growth
and the emerging nature of the markets in which it competes, the Company's
historical financial data is of limited value in evaluating the future prospects
of the Company. Furthermore, the Company intends to significantly increase its
business development, sales and marketing and research and development expenses
to expand operations and enhance the Company's name recognition. To the extent
that such expenses precede or are not rapidly followed by increased net revenue,
the Company's business, financial condition and results of operations may be
materially adversely affected. There can be no assurance that the Company will
be able to increase or sustain its net revenues or its rate of net revenue
growth in future periods or be able to sustain profitability on a quarterly or
annual basis. See "--Significant Fluctuations in Results of Operations," "--
Dependence on Emerging Competitive Carriers" and "-- Regulatory Uncertainty of
Telecommunications Industry."
SIGNIFICANT FLUCTUATIONS IN RESULTS OF OPERATIONS - The Company's results of
operations have fluctuated significantly in the past and are likely to fluctuate
significantly in the future, both on a quarterly and annual basis, as a result
of a variety of factors, many of which are outside of the Company's control.
The Company's results of operations may also fluctuate in the future due to a
number of factors, including, but not limited to, those listed above as well as
(i) the timing and size of orders which are received and which can be shipped in
any particular period; (ii) the commercial success of the Company's products;
(iii) changes in the financial stability of the Company's distributors,
competitive carrier customers or suppliers; (iv) changes in pricing policies by
the Company or its competitors; (v) seasonality in the placement of orders
including the quarter ended December 31, 1998; (vi) changes in the level of the
Company's operating expenses; (vii) changes in the Company's distribution
channels; (viii) delays or deferrals of any competitive carrier's or end user's
implementation of the Company's products; (ix) product life cycles; (x)
customization or integration problems with end user systems; (xi) changes in the
Company's strategy; or (xii) product failures or errors. A significant portion
of the Company's net revenue has been, and the Company believes will continue to
be, derived from a limited number of large orders, and the timing of such orders
and their fulfillment has caused, and are expected to continue to cause,
material fluctuations in the Company's operating results. The Company's
distribution agreements generally allow distributors to postpone or cancel
orders without penalty until a relatively short period of time prior to
shipment. The Company has experienced cancellation and delays of orders from
time to time, and expects to continue to experience order cancellations and
delays from time to time in the future, which could adversely affect the
Company's revenue and results of operations for a quarter or series of quarters.
To achieve its quarterly net revenue objectives, the Company depends upon
obtaining orders in any given quarter for shipment during that quarter. Product
orders are typically shipped shortly after receipt and, consequently, order
backlog at the beginning of any quarter has in the past represented only a small
portion of that quarter's net revenue. Furthermore, the Company has from time to
time, including the four quarters of 1997 and the first quarter of 1998,
recognized a substantial portion of its net revenue from sales booked and
shipped during the last two weeks of a quarter. Accordingly, a delay in shipment
near the end of a particular quarter may cause net revenue in a particular
quarter to fall significantly below the Company's expectations and may
materially adversely affect the Company's operating results for such quarter,
particularly since the Company cannot adjust spending quickly enough to
compensate for any net revenue shortfall. Conversely, to the extent that
significant net revenue occurs earlier than expected, operating results for
subsequent quarters may fail to keep pace with, or even decline from, results of
previous quarters. Moreover, any downturn in general economic conditions could
precipitate significant reductions in customer spending for telecommunications
equipment, which could result in delays or cancellations of orders for the
Company's products. In particular, the Company has experienced some seasonality
in the fourth quarter and first quarter.
Net revenue is difficult to forecast because the markets for the Company's
products are rapidly evolving, and the sales cycle to the Company's distributors
and related competitive carrier customers, from initial evaluation to purchase,
can be lengthy and varies substantially among distributors, competitive carrier
customers and end users. Because substantially all of the sales of the Company's
products are through indirect channels of distribution, the Company's ability to
affect and judge the timing and size of individual orders is more limited than
for manufacturers selling directly to the end users of their products. In
addition, the Company's net revenues for a given quarter may depend to a
significant degree upon planned product shipments for a single competitive
carrier equipment deployment project. As a result, the Company's ability to
forecast net revenues accurately (notwithstanding the forecasts of its
distributors), may be hindered, which could have a material adverse effect on
the Company's results of operations.
DEPENDENCE ON EMERGING COMPETITIVE CARRIERS - The competitive carrier customers
of the Company's products to date have consisted primarily of CLECs and, to a
lesser extent, long distance carriers ("IXCs"), internet service providers
("ISPs") and wireless carriers. The market for the services provided by these
competitive carriers has only begun to emerge since the passage of the
Telecommunications Act of 1996 (the "1996 Act"), and
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many competitive carriers are still building their infrastructure and rolling
out their services. These competitive carriers require substantial capital for
the development, construction and expansion of their networks and the
introduction of their services. The ability of these emerging competitive
carriers to fund such expenditures often depends on their ability to obtain
sufficient financing. There can be no assurance that such financing will be
available to emerging competitive carriers on favorable terms, if at all. The
inability of the Company's current or potential emerging competitive carrier
customers to successfully raise needed funds, or any other trends adversely
affecting such carriers' operating results or profitability, could adversely
affect such carriers' capital spending programs. If the Company's current or
potential competitive carrier customers are forced to defer or curtail their
capital spending programs, the Company's sales may be adversely affected, which
would have a material adverse effect on the Company's business, financial
condition and results of operations. In addition, many of the industries in
which the competitive carriers operate have recently experienced consolidation.
In particular, many telecommunication carriers have recently acquired or merged
with ISPs. The loss of one or more of the Company's competitive carrier
customers, through industry consolidation or otherwise, could have a material
adverse effect on the Company's business, financial condition or results of
operations.
REGULATORY UNCERTAINTY OF TELECOMMUNICATIONS INDUSTRY - Competitive carriers
have been allowed to compete with incumbent local exchange carriers ("ILECs")
in the provisioning of local exchange services primarily as a result of the
adoption of regulations under the 1996 Act which impose new duties on ILECs to
open local telephone markets to competition. Although the 1996 Act was designed
to expand competition in the telecommunications industry, the realization of the
objectives of the 1996 Act is subject to many uncertainties, including judicial
and administrative proceedings designed to define rights and obligations
pursuant to the 1996 Act, actions or inactions by ILECs or other carriers that
affect the pace at which changes contemplated by the 1996 Act occur, resolution
of questions concerning which parties will finance such changes, and other
regulatory, economic and political factors. Any changes to legal requirements,
the adoption of new regulations by federal or state regulatory authorities under
the 1996 Act or any legal challenges to the 1996 Act could have a material
adverse effect upon the market for the Company's products. The Company is aware
of certain litigation challenging the validity of the 1996 Act and local
telephone competition rules adopted by the Federal Communications Commission
("FCC") for the purpose of implementing the 1996 Act. Such litigation may
serve to delay implementation of the 1996 Act, which could adversely affect
demand for the Company's products. Moreover, the Company's distributors or
competitive carrier customers may require, or the Company may otherwise deem it
necessary or advisable, that the Company modify its products to address actual
or anticipated changes in the regulatory environment. The inability of the
Company to modify its products or address such regulatory changes could have a
material adverse effect on the Company's business, financial condition or
results of operations.
INTENSE COMPETITION - The market for telecommunications equipment is
characterized by intense competition, with a large number of suppliers providing
a variety of products to diverse market segments within the telecommunications
industry. The Company's existing and potential competitors include many large
domestic and international companies, including certain companies that have
substantially greater financial, manufacturing, technological, sales and
marketing, distribution and other resources. The Company's principal competitors
for its Access Bank product family include Advanced Fibre Communications
("AFC"), Cisco Systems, Inc. ("Cisco"), DSC Communications Corp. ("DSC"),
General Datacom Industries, Inc. ("General Datacom"), Lucent Technologies,
Inc. ("Lucent"), NEC Corp. ("NEC"), Newbridge Networks Corp.
("Newbridge"), Northern Telecom ("Nortel"), Pairgain Technologies, Inc.
("Pairgain"), Paradyne Corp. ("Paradyne"), Premisys Communications, Inc.
("Premisys"), Pulse Communications, Inc. ("Pulsecom"), Reltec Corp.
("Reltec"), Telco Systems ("Telco") and other small private companies. The
Company's principal competitors for its Wide Bank product family include Alcatel
Alsthom Compagnie Generale d'Electricite ("Alcatel"), NEC, Nortel and Telco.
The Company expects that many of its competitors who currently offer products
competitive with only one of the Company's product lines will eventually offer
products competitive with all of the Company's product lines. In addition,
several start-up companies have recently begun to manufacture products similar
to those offered by the Company. Due to the rapidly evolving markets in which
the Company competes, additional competitors with significant market presence
and financial resources, including large telecommunications equipment
manufacturers and computer hardware and software companies, may enter those
markets, thereby further intensifying competition. Additionally, one of the
Company's distributors is currently competing with the Company, and there can be
no assurance that additional distributors will not begin to develop or market
products in competition with the Company.
Many of the Company's current and potential competitors are substantially larger
than the Company and have significantly greater financial, sales and marketing,
technical, manufacturing and other resources and more established channels of
distribution. As a result, such competitors may be able to respond more rapidly
to new or emerging technologies and changes in customer requirements, or to
devote greater resources to the development, promotion and sale of their
products than the Company. Such competitors may enter the Company's existing or
future markets with solutions which may be less costly, provide higher
performance or additional features or be introduced earlier than the Company's
solutions. Many telecommunications companies have large internal development
organizations which develop software solutions and provide services similar to
the Company's products and services. Some of the Company's competitors currently
offer lucrative financing alternatives to their customers, a service that the
Company does not provide at this time. The Company expects its competitors to
continue to improve the performance of their current products and to introduce
new products or technologies that provide added functionality and other
features. Successful new product introductions or enhancements by the Company's
competitors could cause a significant decline in sales or loss of market
acceptance of the Company's products and services, could result in continued
intense price competition or could make the Company's products and services or
technologies obsolete or noncompetitive. To be competitive, the Company will be
required to continue to invest significant resources in research and development
and sales and marketing. There can be no assurance that the Company will have
sufficient resources to make such investments or that the Company will be able
to make the technological advances necessary to be competitive. In addition,
current and potential competitors have established or may establish cooperative
relationships among themselves or with third parties to increase the ability of
their products to address the needs of the Company's prospective customers.
Accordingly, it is possible that new competitors or alliances among competitors
may emerge and rapidly acquire significant market share. Increased competition
is likely to result in price reductions, reduced gross margins and loss of
market share, any of which would have a material adverse effect on the Company's
business, financial condition and results of operations. There can be no
assurance that the Company will be able to compete successfully against current
or future competitors or that competitive pressures will not have a material
adverse effect on the Company's business, financial condition and results of
operations.
DEPENDENCE ON DISTRIBUTION CHANNELS To date, substantially all of the sales of
the Company's products have been made through distributors. In addition to
product sales, the Company from time to time relies on its distributors to
provide installation, training and customer support to the ultimate end users of
the Company's products. As a result, the Company's success depends on the
continued sales and customer support efforts of its network of distributors.
Sales of the Company's products historically have been made to a limited number
of distributors. In 1995, Telco, C&L
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<PAGE>
Communications ("C&L"), Phillips Communications and Equipment ("Phillips")
and Telsource Corporation ("Telsource") accounted for 26%, 13%, 13% and 12% of
net revenue, respectively. In 1996, Telco, Phillips, Telsource and C&L accounted
for 47%, 18%, 18% and 11% of net revenue, respectively. In 1997, Walker &
Associates ("Walker"), ADC Telecommunications ("ADC") and Phillips accounted
for 36%, 20% and 14% of net revenue, respectively. In the first nine months of
1998, Walker, Phillips and Telsource accounted for 40%, 17% and 15% of net
revenue, respectively. The Company expects that the sale of its products will
continue to be made to a small number of distributors. Accordingly, the loss of,
or reduction in sales to, any of the Company's key distributors could have a
material adverse effect on the Company's business, financial condition or
results of operations. Moreover, the Company depends on ADC to actively market
and promote the Company's solution for the HDSL market. If ADC does not actively
market or promote the Company's solution to the HDSL market, the Company would
need to seek another OEM for this market, which could take six months or longer.
The Company has limited knowledge of the financial condition of certain of its
distributors; however, it is aware that some of its distributors have limited
financial and other resources which could impair their ability to pay the
Company. Although the financial instability of these distributors has not
limited any distributor's ability to pay the Company for its products to date,
there can be no assurance that any bad debts incurred by the Company will not
exceed the Company's reserves therefor or that the financial instability of one
or more of the Company's distributors will not materially adversely affect the
Company's business, financial condition or results of operations.
The Company generally provides its distributors with limited stock rotation and
price protection rights. Other than limited stock rotation rights, the Company
does not provide its distributors with general product return rights. The
Company has limited knowledge of the inventory levels of its products carried by
its OEMs and distributors, and the Company's OEMs and distributors have in the
past reduced, and may in the future reduce, planned purchases of the Company's
products due to overstocking. Moreover, distributors who have overstocked the
Company's products have in the past reduced, and may in the future reduce, their
inventories of the Company's products by selling such products at significantly
reduced prices. Any such reduction in planned purchases or sales at reduced
prices by distributors or OEMs in the future could reduce the demand for the
Company's products, create conflicts with other distributors or otherwise
materially adversely affect the Company's business, financial condition and
results of operations. In addition, three times a year, distributors are allowed
to return a maximum of fifteen percent of the Company's unsold products held in
stock by such distributor, which were purchased within the four month period
prior to such return date, for an equal dollar amount of new equipment. While to
date these returns have not had a material impact on the Company's results of
operations, there can be no assurance that the Company will not experience
significant returns in the future or that it will have made adequate allowances
to offset such returns. The Company is generally required to give its
distributors a 60 day notice of price increases. Orders entered by distributors
within the 60 day period are filled at the lower product price. In addition, the
Company grants certain of its distributors "most favored customer" terms,
pursuant to which the Company has agreed to not knowingly grant another
distributor the right to resell the Company's products on terms more favorable
than those granted to the existing distributor, without offering the more
favorable terms to the existing distributor. There can be no assurance that
these price protection and "most favored customer" clauses will not cause a
material decrease in the average selling prices and gross margins of the
Company's products, which could have a material adverse effect on the Company's
business, financial condition or results of operations. See "--Lengthy Sales
Cycle."
CHALLENGES OF MAINTAINING AND EXPANDING DISTRIBUTION CHANNELS; POTENTIAL FOR
CHANNEL CONFLICT - The Company's ability to achieve future net revenue growth
will depend in large part on its success in maintaining its current distributor
relationships, diversifying its distribution channels by selling to new
distributors, establishing relationships with OEMs and maintaining as well as
expanding the Company's current competitive carrier customer base. Most of the
Company's existing distributors currently distribute, or may in the future
distribute, the product lines of the Company's competitors. There can be no
assurance that the Company will be able to attract and retain a sufficient
number of its existing or future distributors or that the Company's distributors
will recommend, or continue to recommend, the Company's products or that the
Company's distributors will devote sufficient resources to market and provide
the necessary customer support for such products. In the event that any of the
Company's current distributors reduce their purchases of the Company's products,
or that the Company fails to obtain future distributors, the Company's business,
financial condition or results of operations could be materially and adversely
affected. In addition, there can be no assurance that the Company's distributors
will give a high priority to the marketing and customer support of the Company's
products as compared to competitive products or alternative solutions or that
the Company's distributors will continue to offer the Company's products. The
Company's distributor relationships are established through formal agreements
that generally do not grant exclusivity, do not prevent the distributor from
carrying competing product lines and do not require the distributor to purchase
any minimum dollar amount of the Company's products. In addition, the Company's
distribution agreements do not attempt to allocate certain territories for its
products among its distributors. To the extent different distributors target the
same end users of the Company's products, distributors may come into conflict
with one another, which could damage the Company's relationship with, and sales
to, such distributors.
COMPETITIVE CARRIER CUSTOMER CONCENTRATION - In addition to being dependent on a
small number of distributors for a majority of its net revenue, the Company
believes its products are distributed to a limited number of competitive carrier
customers who are primarily CLECs. The Company believes that in 1997, 22
competitive carrier customers indirectly accounted for approximately 75% of its
net revenue and that for the first nine months of 1998, 25 competitive carrier
customers indirectly accounted for approximately 70% of its net revenue. In
addition the Company believes that two competitive carrier end users each
accounted for more than 10% of its revenue in the three months ended September
30, 1998. None of such competitive carrier customers has any obligation to
purchase additional products or services. Accordingly, there can be no assurance
that present or future competitive carrier customers will not terminate their
purchasing arrangements with the Company's distributors, or significantly reduce
or delay the amount of the Company's products they order. Any such termination,
change, reduction or delay in orders could have a material adverse effect on the
Company's business, financial condition and results of operations. See "--
Dependence on Distribution Channels," "--Challenges of Maintaining and Expanding
Distribution Channels; Potential for Channel Conflict."
POSSIBLE DECLINE IN PRICES - The Company believes that average selling prices
and gross margins for its products will decline as such products mature and as
competition intensifies. To offset declining selling prices, the Company
believes that it must successfully reduce the costs of production of its
existing products and introduce and sell new products and product enhancements
on a timely basis at a lower cost or sell products and product enhancements that
incorporate features that enable them to be sold at higher average selling
prices. In particular, the Company believes that it will need to achieve
significant cost reductions through engineering improvements and economies of
scale in production and purchasing. There can be no assurance that the Company
will be able to achieve the desired cost savings. To the extent that the Company
is unable to reduce costs sufficiently to offset any declining average selling
prices or unable to introduce enhanced products with higher selling prices, the
Company's gross
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<PAGE>
margins will decline, and such decline would have a material adverse effect on
the Company's business, financial condition and results of operations. See "--
Dependence on New Product Introductions and Product Enhancements; Risks
Associated with Transition to New Products" and "--Risk of Product Defects,
Returns and Liability."
DEPENDENCE ON EMERGING MARKET FOR MULTI-SERVICE DIGITAL ACCESS EQUIPMENT; RISKS
ASSOCIATED WITH MARKET ACCEPTANCE OF WIDE BANK PRODUCT FAMILY - The Company
currently derives all of its net revenue from sales of its multi-service digital
access ("MDA") equipment and accessories and expects that this concentration
will continue in the foreseeable future. In 1997, the Company's Access Bank
product family and the Wide Bank product family accounted for approximately 88%
and 10% of the units shipped by the Company', respectively. In the first nine
months of 1998, the Company's Access Bank product family and Wide Bank product
family accounted for approximately 81% and 19% of the units shipped by the
Company, respectively. As a result, any decrease in the overall level of sales
of, or the prices for, MDA equipment due to product enhancements, new product
introductions or announcements by the Company's competitors, a decline in the
demand for MDA equipment, product obsolescence, price competition, technological
change or any other reason could have a material adverse effect on the Company's
business, financial condition and results of operations. In addition, the
Company's future financial performance will depend in part on the general growth
of the MDA equipment market, and in particular on the successful development,
introduction and customer acceptance of new and enhanced versions of its
existing Access Bank and Wide Bank product families. The Company can give no
assurance that the market for it's product families will grow or the Company
will be successful in introducing new products, or that any of these products
will achieve widespread customer acceptance. If the market for MDA equipment
fails to grow or grows more slowly than the Company currently anticipates, the
Company's business, financial condition and results of operations would be
materially adversely affected. See "--Dependence on New Product Introductions
and Product Enhancements ; Risks Associated with Transition to New Products."
DEPENDENCE ON SOLE AND SINGLE SOURCE SUPPLIERS - Although the Company generally
uses standard parts and components for its products, many key components are
purchased from sole or single source vendors for which alternative sources are
not currently available. The Company currently purchases 41 key components from
vendors for which there is currently no substitute and purchases an additional
50 key components from single vendors. In addition, the Company uses several
independent manufacturers to provide certain printed circuit boards ("PCBs"),
chassis and subassemblies. The inability to obtain sufficient quantities of
these components has in the past resulted in, and may in the future result in,
delays or reductions in product shipments, which could materially adversely
affect the Company's business, financial condition or results of operations. In
the event of a reduction or interruption of supply, as much as six months could
be required before the Company would begin receiving adequate supplies from
alternative suppliers, if any. No assurance can be given that any such source
would become available to the Company or that any such source would be in a
position to satisfy the Company's production requirements on a timely basis, if
at all. In such event, the Company's business, financial condition and results
of operations would be materially adversely affected. In addition, the
manufacture of certain of these single or sole source components is extremely
complex, and the Company's reliance on the suppliers of these components exposes
the Company to potential production difficulties and quality variations, which
could negatively impact cost and timely delivery of the Company's products. Any
significant interruption in the supply, or degradation in the quality, of any
such component could have a material adverse effect on the Company's business,
financial condition or results of operations.
DEPENDENCE ON COMPONENT AVAILABILITY - The Company's distributors frequently
require rapid delivery after placing an order. Because the Company does not
maintain significant component inventories, a delay in shipment by one of the
Company's suppliers could lead to lost sales. Lead times for materials and
components vary significantly and depend on many factors, some of which are
beyond the Company's control, such as specific supplier performance, contract
terms and general market demand for components. If orders vary from forecasts,
the Company may experience inadequate inventory of certain materials and
components to fill orders. While the Company has not experienced any material
shortages of these components to date, any shortages in the future, including
those occasioned by increased sales, could result in delays in fulfillment of
customer orders. Such delays could have a material adverse effect on the
Company's business, financial condition and results of operations. See "--
Dependence on Distribution Channels," and "--Challenges of Maintaining and
Expanding Distribution Channels; Potential for Channel Conflict.
RISKS ASSOCIATED WITH MANUFACTURING - The Company currently uses several
independent manufacturers to provide certain PCBs, chassis and subassemblies.
The Company's reliance on independent manufacturers involves a number of risks,
including the absence of adequate capacity, the unavailability of or
interruptions in access to certain process technologies and reduced control over
delivery schedules, manufacturing yields and costs. Some of the Company's
manufacturers and suppliers are undercapitalized, and there can be no assurance
that such manufacturers or suppliers will be able to continue to provide
manufacturing services or components to the Company. In the event that these
manufacturers are unable or unwilling to continue to manufacture the Company's
components in required volumes, the Company will have to identify and qualify
acceptable additional or alternative manufacturers, which could take in excess
of six months. No assurance can be given that any such source would become
available to the Company or that any such source would be in a position to
satisfy the Company's production requirements on a timely basis, if at all. Any
significant interruption in the supply of these components to the Company would
result in the allocation of products to customers, which in turn could have a
material adverse effect on the Company's business, financial condition or
results of operations. Moreover, since all of the Company's final assembly and
test are performed in one location, any fire or other disaster at the Company's
assembly facility would have a material adverse effect on the Company's
business, financial condition and results of operations.
DEPENDENCE ON KEY PERSONNEL AND AVAILABILITY OF SKILLED WORKFORCE - The
Company's success depends to a significant degree upon the continued
contributions of its Chief Executive Officer, Chief Financial Officer and its
key management, sales, engineering, customer support and product development
personnel, many of whom would be difficult to replace. In particular, the loss
of either Roger Koenig, President and Chief Executive Officer, or Nancy Pierce,
Chief Financial Officer, both of whom co-founded the Company, could materially
and adversely affect the Company. The Company is currently in the process of
recruiting a Vice President-Marketing. There can be no assurance that, if hired,
the new Vice President-Marketing or other recently hired employees will be
assimilated into the Company successfully. The Company believes that its future
success will depend in large part upon its ability to attract and retain highly-
skilled managerial, sales, customer support and product development personnel.
Competition for qualified personnel in the Company's industry and geographic
location is intense, and there can be no assurance that the Company will be
successful in attracting and retaining such personnel. The Company does not have
employment contracts with any of its key personnel. The loss of the services of
any such persons, the inability to attract or retain qualified personnel in the
future or delays in hiring required personnel, particularly engineering
personnel and qualified sales personnel, could have a material adverse effect on
the Company's business, financial condition or results of operations.
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<PAGE>
RISKS ASSOCIATED WITH RAPID GROWTH - The Company has experienced rapid growth in
net revenue and expansion of its operations and anticipates that further
significant expansion will be required to address potential growth in its
customer base and market opportunities. Such growth has placed, and, if
sustained, will continue to place, significant strain on the Company's
management, information systems, operations and resources. For example, the
Company has experienced errors in the assembly of electronic component kits and
shipping errors in the past primarily as a result of its limited resources in
the face of a period of rapid growth. The Company's ability to manage any future
growth will continue to depend upon the successful expansion of its sales,
marketing, research and development, customer support, manufacturing and
administrative infrastructure and the ongoing implementation and improvement of
a variety of internal management systems, procedures and controls. Continued
growth will also require the Company to hire more engineering, sales and
marketing and administrative personnel, expand customer support capabilities,
expand management information systems and improve its inventory management
practices. Recruiting qualified personnel is an intensely competitive and time-
consuming process. There can be no assurance that the Company will be able to
attract and retain the necessary personnel to accomplish its growth strategies
or that it will not experience constraints that will adversely affect its
ability to satisfy customer demand in a timely fashion or to support
satisfactorily its customers and operations. There can be no assurance that the
Company will be able to attract, manage and retain additional personnel to
support any future growth, if any, or will not experience significant problems
with respect to any infrastructure expansion or the attempted implementation of
systems, procedures and controls. If the Company's management is unable to
manage growth effectively, the Company's business, financial condition or
results of operations could be materially adversely affected. The Company
believes that it will require up to 50,000 additional square feet of office,
manufacturing and research and development space within the next 24 months.
There can be no assurance that suitable additional space will be available on
commercially reasonable terms or at all. See "--Managements Discussion and
Analysis of Liquidity and Capital Resources," See "--Dependence on Sole and
Single Source Suppliers," "--Dependence on Component Availability," "--Risks
Associated with Manufacturing," and "--Dependence on Key Personnel and
Availability of Skilled Workforce."
DEPENDENCE ON NEW PRODUCT INTRODUCTIONS AND PRODUCT ENHANCEMENTS; RISKS
ASSOCIATED WITH TRANSITION TO NEW PRODUCTS- The Company's success will depend to
a substantial degree upon its ability to enhance its existing products and to
develop and introduce, on a timely and cost-effective basis, new products and
features that meet changing end user requirements and emerging industry
standards; however, there can be no assurance that the Company will be
successful in identifying, developing, manufacturing, and marketing product
enhancements or new products that will respond to technological change or
evolving industry standards. The Company intends to continue to invest
significantly in product and technology development. The Company has in the
recent past experienced delays in the development and commencement of commercial
shipment of new products and enhancements, resulting in distributor and end user
frustration and delay or loss of net revenue. There can be no assurance that the
Company will not experience similar or other difficulties in the future that
could delay or prevent the successful development, production or shipment of
such new products and enhancements, or that its new products and enhancements
will adequately meet the requirements of the marketplace and achieve market
acceptance. Announcements of currently planned or other new product offerings by
the Company or its competitors have in the past caused, and may in the future
cause, distributors or end users to defer or cancel the purchase of existing
Company products. The Company's inability to develop on a timely basis new
products or enhancements to existing products, or the failure of such new
products or enhancements to achieve market acceptance, could have a material
adverse effect on the Company's business, financial condition and results of
operations.
Certain of the Company's competitive carrier customers have purchased the
Company's MDA products with the expectation that the Company would develop an
integrated voice and data solution for commercial use during the fourth quarter
of 1998. While the Company intends to substantially invest in the research and
development of such a solution, there can be no assurance that the Company will
develop such a solution or that such a solution can be developed in a cost-
effective manner. In addition, the Company cannot project the aggregate research
and development expenditures for full deployment of its integrated voice and
data solution. If the Company is unable to develop an integrated voice and data
solution in a timely and cost-effective manner that achieves market acceptance,
the competitive carriers who purchased the Company's MDA products with the
expectation of such a development could discontinue their use of the Company's
MDA products, which could have a material adverse effect on the Company's
business, financial condition and results of operations to the extent such
competitive carriers do not continue to purchase the Company's products.
The development of new, technologically advanced products is a complex and
uncertain process requiring high levels of innovation, as well as the accurate
anticipation of technological and market trends. The introduction of new or
enhanced products will also require the Company to manage the transition from
older products in order to minimize disruption in customer ordering patterns,
avoid excessive levels of older product inventories and ensure that adequate
supplies of new products can be delivered to meet customer demand. During the
first quarter of 1998, the Company reworked certain of its Wide Bank products
previously sold to a certain distributor in order to add new features which were
included in a subsequent release of such product. While these actions did not
cause the Company to record lower than anticipated net revenue for the first
quarter of 1998, the Company's gross margin was adversely affected. There can be
no assurance that the Company will continue to successfully develop, introduce
or manage the transition to new products.
RISK OF PRODUCT DEFECTS, RETURNS AND LIABILITY - The Company's products have in
the past contained, and may in the future contain, undetected or unresolved
errors when first introduced or as new versions are released. There can be no
assurance that, despite extensive testing by the Company, errors, defects or
failures will not be found in the Company's current or future products or
enhancements after commencement of commercial shipments, resulting in delay in
or loss of market acceptance and sales, product returns, diversion of
development resources, injury to the Company's reputation or increased service
and warranty costs, any of which could have a material adverse effect on the
Company's business, financial condition and results of operations. Significant
delays in meeting deadlines for announced product introductions or enhancements
or performance problems with such products could result in an undermining of
customer confidence in the Company's products, which would materially and
adversely affect its customer relationships as well. Although the Company has
not experienced any product liability claims to date, the sale and support of
the Company's products entails the risk of such claims, and there can be no
assurance that the Company will not be subject to such claims in the future. A
successful product liability claim brought against the Company could have a
material adverse effect on the Company's business, financial condition and
results of operations. The Company's agreements with its distributors typically
contain provisions designed to limit the Company's exposure to potential product
liability claims. However, it is possible that the limitation of liability
provisions contained in the Company's agreements may not be effective under the
laws of certain jurisdictions.
Page 15 of 19
<PAGE>
LENGTHY SALES CYCLE - The sale of the Company's MDA products averages
approximately four months in the case of competitive carriers, but can take
significantly longer in the case of ILECs and certain distributors and end
users. This process is often subject to delays over which the Company has little
or no control, including a distributor's or a competitive carrier's budgetary
constraints, distributor or competitive carrier internal acceptance reviews, the
success and continued internal support of competitive carrier's own development
efforts, and the possibility of cancellation or delay of projects by
distributors or competitive carriers. In addition, as competitive carriers have
matured and grown larger, their purchase process has become more
institutionalized, and it has become increasingly difficult, and required more
of the Company's time and effort, to gain the initial acceptance and adoption of
its products by these end users. Although the Company attempts to develop its
products with the goal of facilitating the time to market of its competitive
carrier's products, the timing of the commercialization of a new distributor or
competitive carrier's application or service based on the Company's products is
primarily dependent on the success and timing of a competitive carrier's own
internal deployment program. Delays can also be caused by late deliveries by
other vendors, changes in implementation priorities and slower than anticipated
growth in demand for the Company's products. A delay in, or a cancellation of,
the sale of the Company's products could have a material adverse effect on the
Company's business, financial condition and results of operations and cause the
Company's results of operations to vary significantly from quarter to quarter.
RISKS ASSOCIATED WITH RAPID TECHNOLOGICAL CHANGE - The telecommunications and
data communications market is characterized by rapidly changing technology,
evolving industry standards, changes in end user requirements and frequent new
product introductions and enhancements that may render the Company's existing
products obsolete. The Company expects that new technologies will emerge as
competition in the telecommunications and data communications industry increases
and the need for higher volume and more cost efficient transmission equipment
expands. Industry standards for distributed digital access equipment and
technology are still evolving. The introduction of products embodying new
technologies or the emergence of new industry standards can render existing
products obsolete or unmarketable. For example, if the market were to broadly
adopt telecommunications equipment based on cable modems or cable telephony,
sales of the Company's existing or future products could be significantly
diminished. As standards and technologies evolve, the Company will be required
to modify its products or develop and support new versions of its products. The
failure of the Company's products to comply, or delays in achieving compliance,
with the various existing and evolving industry standards could adversely affect
sales of the Company's current products or delay introduction of the Company's
future products.
DEPENDENCE ON CONTINUED GROWTH OF MARKET FOR TELECOMMUNICATIONS SERVICES - The
Company's success will also depend on continued growth in the market for
telecommunications and data communications services. The global
telecommunications marketplace is evolving and it is difficult to predict its
potential size or future growth rate. There can be no assurance this market will
continue to grow or that increased regulation will not present barriers to the
sales of existing or future products. If this market fails to grow or grows more
slowly or in a different direction than the Company currently anticipates, the
Company's business, financial condition and results of operations would be
materially and adversely affected. See "--Intense Competition," "--Dependence
on New Product Introductions and Product Enhancements; Risks Associated with
Transition to New Products" and "--Risk of Product Defects, Returns and
Liability."
DEPENDENCE ON PROPRIETARY RIGHTS - The Company relies primarily on a combination
of patent, copyright, trademark and trade secret laws, as well as
confidentiality procedures and contractual restrictions, to establish and
protect its proprietary rights. As of September 30, 1998, a total of two U.S.
patents have been issued to the Company, two additional patents have been
allowed and are pending issuance, two additional patents are allowable and are
still in process and a total of two U.S. patent applications are pending. The
Company also has three U.S. registered trademarks and one U.S. trademark
application pending. The Company has also entered into confidentiality
agreements with all of its employees and consultants and enters into non-
disclosure agreements with its suppliers and distributors in order to limit
access to and disclosure of its proprietary information. There can be no
assurance such measures will be adequate to deter and prevent misappropriation
of the Company's technologies or independent third-party development of similar
technologies. Despite the Company's efforts to protect its proprietary rights,
unauthorized parties may attempt to copy aspects of the Company's products or to
obtain and use trade secrets or other information that the Company regards as
proprietary. Further, the Company may be subject to additional risks as it
enters into transactions in foreign countries where intellectual property laws
do not protect the Company's proprietary rights as fully as do the laws of the
U.S. There can be no assurance that the Company's competitors will not
independently develop similar or superior technologies or duplicate any
technology developed by the Company. Any such events could have a material
adverse effect on the Company's business, financial condition and results of
operations.
The telecommunications industry is characterized by the existence of a large
number of patents and frequent litigation based on allegations of patent
infringement. As the number of entrants in the Company's markets increases and
the functionality of the Company's products is enhanced and overlaps with the
products of other companies, the Company may become subject to claims of
infringement or misappropriation of the intellectual property rights of others.
From time to time, third parties may assert patent, copyright, trademark and
other intellectual property rights to technologies that are important to the
Company. Although the Company has not received communications from third parties
asserting that the Company's products infringe or may infringe proprietary
rights of third parties, the Company has no assurance that any future claims, if
determined adversely to the Company, would not have a material adverse effect on
the Company's business, financial condition or results of operations. In its
distribution agreements, the Company agrees to indemnify distributors and
competitive carrier customers for any expenses or liabilities resulting from
claimed infringements of patents, trademarks or copyrights of third parties. In
certain limited instances, the amount of such indemnities may be greater than
the net revenue the Company may have received from the distributor. There can be
no assurance that third parties will not assert infringement or misappropriation
claims against the Company in the future with respect to current or future
products. In the event litigation is required to determine the validity of any
third-party claims, such litigation, whether or not determined in favor of the
Company, could result in significant expense to the Company, divert the efforts
of the Company's technical and management personnel, cause product shipment
delays or require the Company to enter into royalty or licensing agreements.
Such royalty or licensing arrangements, if required, may not be available on
reasonable commercial terms acceptable to the Company, if at all. In the event
of an adverse ruling in any litigation, the Company might be required to
discontinue the use and sale of infringing products, expend significant
resources to develop non-infringing technology or obtain licenses from third
parties. In the event of a claim or litigation against or by the Company or the
failure of the Company to develop or license a substitute technology on
commercially reasonable terms, the Company's business, financial condition and
results of operations would be materially adversely affected.
Page 16 of 19
<PAGE>
POSSIBLE VOLATILITY OF STOCK PRICE - The market price of the Common Stock has
been and is likely to continue to be subject to fluctuations in response to
variations in operating results, announcements of technological innovations or
new products by the Company or its competitors, changes in financial estimates
by securities analysts, regulatory developments and other events or factors. In
addition, the stock market in general and the market prices of equity securities
of many high technology companies in particular, have experienced extreme price
fluctuations, which often have been unrelated to the operating performance of
such companies. These broad market fluctuations may materially adversely affect
the market price of the Common Stock.
CONTROL BY EXISTING STOCKHOLDERS - Members of the Board of Directors and the
executive officers of the Company, together with members of their families and
entities that may be deemed affiliates of or related to such persons or
entities, beneficially own approximately 70% of the outstanding shares of Common
Stock of the Company. In particular, Mr. Koenig and Ms. Pierce, the Company's
Chief Executive Officer and Chief Financial Officer, respectively, are married
and beneficially own approximately 59% of the outstanding shares of Common Stock
of the Company. Accordingly, these stockholders are able to elect all members of
the Company's Board of Directors and determine the outcome of all corporate
actions requiring stockholder approval, such as mergers and acquisitions. This
level of ownership by such persons and entities may have a significant effect in
delaying, deferring or preventing a change in control of the Company and may
adversely affect the voting and other rights of other holders of Common Stock.
Page 17 of 19
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not a party to any material legal proceedings..
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
The effective date of the registration statement for the for the Company's IPO,
filed on Form S-1 under the Securities Act of 1933 (File No. 333-53947), was
July 30, 1998. The class of securities registered was Common Stock. The Offering
commenced on July 31, 1998 and all securities were sold in the offering. The
managing underwriters for the offering were Credit Suisse First Boston,
Hambrecht & Quist and Warburg Dillon Read LLC.
Pursuant to the IPO Registration Statement, the Company sold 3,450,000 shares of
its Common Stock for aggregate gross proceeds of $41.4 million.
The Company incurred expenses of approximately $3.8 million of which
approximately $2.9 million represented underwriting discounts and commission and
approximately $900,000 represented other expenses related to the IPO. The net
IPO proceeds to the Company after total expenses was approximately $37.6
million.
The Company has used approximately $9.4 million of the proceeds from the IPO as
follows: approximately $5.8 million for working capital; approximately $1.1
million for product development; approximately $360,000 for capital
expenditures; and approximately $2.1 million for general corporate purposes.
Approximately $14.2 million of the proceeds have been used to purchase
securities available for sale. The remaining net proceeds are cash and cash
equivalents. The use of the proceeds from the offering does not represent a
material change in the use of proceeds described in the prospectus.
In reliance on Rule 701 under the Securities Act of 1933, during the three
months ended September 30, 1998, the Company sold 86,271 shares of Common Stock
pursuant to the exercise of stock option grants under the Company's 1995 Stock
Option Plan.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On July 27, 1998, shareholders holding a total of 12,497,295 shares of the
13,363,667 shares outstanding executed a written consent approving a proposal to
amend the Certificate of Incorporation to effect a three-for-two forward stock
split and to reduce the number of authorized shares of Preferred Stock.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------ -----------------------
27.1 FINANCIAL DATA SCHEDULE
(B) Form 8-K Reports
The Company filed no reports on Form 8-K during the three months ended
September 30, 1998.
Page 18 of 19
<PAGE>
SIGNATURE
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.
CARRIER ACCESS CORPORATION
(Registrant)
By: /s/ Nancy Pierce
----------------
November 16, 1998 Nancy Pierce
Vice President, Finance, and Chief Financial Officer
(Principal Accounting Officer and Authorized Signatory)
Page 19 of 19
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