<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934. For the quarterly period
ended SEPTEMBER 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM
____ TO _____
COMMISSION FILE NUMBER 000-21171
SPLASH TECHNOLOGY HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 77-0418472
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
555 DEL REY AVENUE, SUNNYVALE, CA 94086
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (408) 328-6300
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 Registrant's Common Stock. $.001 par
value, as of November 8, 1999 was 14,080,828 shares.
<PAGE>
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
December 31, September 30,
1998 1999
------------- -----------
<S> <C> <C>
ASSETS (Unaudited)
Current assets:
Cash and cash equivalents $ 51,013 $ 49,423
Marketable securities 9,814 15,311
Accounts receivable, net of allowance for doubtful accounts of
$303 and $283 as of December 31, 1998 and September 30,1999,
respectively 9,316 14,624
Inventories 2,830 1,427
Prepaid expenses and other current assets 997 730
Deferred income taxes 3,880 3,880
--------- ---------
Total current assets 77,850 85,395
Property and equipment, net 2,256 1,923
Deferred income taxes 10,514 10,513
Other assets 3,112 4,040
--------- ---------
Total assets $ 93,732 $ 101,871
========= =========
LIABILITIES
Current liabilities:
Trade accounts payable $ 2,056 $ 7,350
Accrued and other liabilities 17,641 16,195
--------- ---------
Total current liabilities 19,697 23,545
Other long term liabilities 742 792
--------- ---------
Total liabilities 20,439 24,337
--------- ---------
STOCKHOLDERS' EQUITY
Common stock, par value $.001 per share:
Authorized: 50,000,000 shares
Issued and outstanding: 13,962,863 shares and 14,015,414 shares as of
December 31, 1998 and September 30, 1999, respectively 14 14
Additional paid-in capital 86,581 86,940
Accumulated deficit (13,302) (9,420)
--------- ---------
Total stockholders' equity 73,293 77,534
--------- ---------
Total liabilities and stockholders' equity $ 93,732 $ 101,871
========= =========
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
2
<PAGE>
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED))
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
1998 1999 1998 1999
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Net revenue $ 25,264 $ 16,712 $ 69,058 $ 49,959
Cost of net revenue 11,684 7,935 31,855 22,792
---------- ---------- ---------- ----------
Gross profit 13,580 8,777 37,203 27,167
---------- ---------- ---------- ----------
Operating expenses:
Research and development 3,694 4,204 10,255 11,241
Sales, general and administrative 3,733 4,225 11,274 12,152
Facility closure charge - 998 - 998
---------- ---------- ---------- ----------
Total operating expenses 7,427 9,427 21,529 24,391
---------- ---------- ---------- ----------
Income (loss) from operations 6,153 (650) 15,674 2,776
Interest income, net 512 857 1,450 2,343
---------- ---------- ---------- ----------
Income before income taxes 6,665 207 17,124 5,119
Provision for income taxes 2,199 45 5,751 1,102
---------- ---------- ---------- ----------
Net income $ 4,466 $ 162 $ 11,373 $ 4,017
========== ========== ========== ==========
Basic net income per share $ 0.32 $ 0.01 $ 0.82 $ 0.29
========== ========== ========== ==========
Diluted net income per share $ 0.32 $ 0.01 $ 0.81 $ 0.28
========== ========== ========== ==========
Shares used in basic net income per share
calculation
13,920 14,031 13,887 14,004
========== ========== ========== ==========
Shares used in diluted net income per share
calculation 14,118 14,118 14,082 14,109
========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
3
<PAGE>
SPLASH TECHNOLOGY HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
Nine Months Ended September 30,
1998 1999
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 11,373 $ 4,017
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 1,259 363
Changes in assets and liabilities:
Accounts receivable (5,738) (5,308)
Inventories 1,442 1,403
Prepaid expenses and other current assets (120) 267
Other assets 21 (1,291)
Trade accounts payable 1,205 5,294
Accrued and other liabilities 3,458 (1,396)
-------- --------
Net cash provided by operating activities 12,900 3,349
-------- --------
Cash flows from investing activities:
Redemption/purchase of marketable securities 2,923 (5,497)
Purchase of property and equipment (1,353) 197
-------- --------
Net cash provided by (used in) investing activities 1,570 (5,300)
-------- --------
Cash flows from financing activities:
Exercise (repurchase) of stock under stock plans 619 361
-------- --------
Net cash provided by financing activities 619 361
-------- --------
Net increase (decrease) in cash 15,089 (1,590)
Cash and cash equivalents, beginning of period 43,637 51,013
-------- --------
Cash and cash equivalents, end of period $ 58,726 $ 49,423
======== ========
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
4
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. REORGANIZATION AND BASIS OF PRESENTATION
Splash Technology Holdings, Inc. (the "Company"), through its
wholly-owned subsidiaries, develops, produces and markets color servers,
which consist of computer hardware and software systems that provide an
integrated link between desktop computers and digital color copiers and
enable such copiers to provide high speed and quality networked color
printing and scanning. The Company sells substantially all of its color
servers through two original equipment manufacturers ("OEMs") which
integrate the Company's color servers into connected digital color
photocopier systems, which are sold to end users in North and South
America, Europe, Asia, Australia, Japan, New Zealand, Africa and the
Middle East. The Company operates in one business segment.
The accompanying unaudited consolidated financial information has
been prepared by the Company in accordance with generally accepted
accounting principles for interim financial statements and pursuant to the
rules of the Securities and Exchange Commission on Form 10-Q. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to the rules and
regulations of the Securities and Exchange Commission. The December 31,
1998 balance sheet was derived from audited financial statements but does
not include all disclosures required by generally accepted accounting
principles. In the opinion of management, the accompanying consolidated
financial statements contain all normal, recurring adjustments necessary
to present fairly the Company's consolidated financial position as of
September 30, 1999, the cash flows for the nine months ended September 30,
1999 and the results of operations for the three and nine months ended
September 30, 1999, which results are not necessarily indicative of
results on an annual basis. The consolidated financial statements should
be read in conjunction with the consolidated financial statements and
related notes contained in the Company's Annual Report on Form 10-K for
the fiscal year ended December 31, 1998.
2. BALANCE SHEET DETAIL (IN THOUSANDS):
<TABLE>
<CAPTION>
December 31, September 30,
1998 1999
--------------------- --------------------
<S> <C> <C>
INVENTORIES
Raw materials $ 1,447 521
Finished goods 1,383 906
------- -------
$ 2,830 $ 1,427
======= =======
ACCRUED AND OTHER LIABILITIES:
Royalties payable $ 1,335 $ 3,719
Accrued payables 3,647 2,956
Accrued product-related obligations 6,589 3,622
Accrued compensation and related expenses 1,487 1,844
Income taxes payable 4,583 4,054
------- -------
$17,641 $16,195
======= =======
</TABLE>
3. COMPUTATION OF NET INCOME PER SHARE
Basic EPS is computed by dividing income available to common
shareholders by the weighted average number of common shares outstanding
for the period. Diluted EPS is computed giving effect to all dilutive
potential common shares that were outstanding during the period. Dilutive
potential common shares consist of incremental shares issuable upon
exercise of stock options.
5
<PAGE>
In accordance with the disclosure requirements of SFAS 128, a
reconciliation of the numerator and denominator of basic and diluted EPS is
provided as follows (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS):
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
1998 1999 1998 1999
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Numerator - Basic and Diluted EPS
Net income available to common stockholders $ 4,466 $ 162 $ 11,373 $ 4,017
========== ========== ========== ==========
Denominator - Basic EPS
Weighted average shares outstanding 13,920 14,031 13,887 14,004
---------- ---------- ---------- ----------
Basic net income per share $ 0.32 $ 0.01 $ 0.82 $ 0.29
========== ========== ========== ==========
Denominator - Diluted EPS
Denominator - Basic EPS 13,920 14,031 13,887 14,004
Effect of dilutive common stock options 198 87 195 105
---------- ---------- ---------- ----------
Dilutive shares 14,118 14,118 14,082 14,109
---------- ---------- ---------- ----------
Diluted net income per share $ 0.32 $ 0.01 $ 0.81 $ 0.28
========== ========== ========== ==========
</TABLE>
Options to purchase 1.4 million and 1.7 million shares of common stock
were outstanding at September 30, 1998, 1999, respectively, but were not
included in the calculation of diluted earnings per share because the
options' exercise prices were greater than the average market price of the
common shares during the nine months ended September 30, 1998 and 1999,
respectively.
4. RECENT ACCOUNTING PRONOUNCEMENTS
The Company has adopted Statement No. 130 ("SFAS"), "Reporting
Comprehensive Income." Comprehensive income is defined as the change in
equity of a business enterprise during a period from transactions and other
events and circumstances from non-owner sources. As the components of
comprehensive income are not material, the Company has not reflected the
additional reporting and display provisions of SFAS 130 in the accompanying
financial statements.
5. CONTINGENCIES
In January 1999, two class action complaints were filed against the
Company, certain of its officers and directors, and its investment bankers in
the United States District Court for the Northern District of California,
alleging violations of the federal securities laws. The class period runs
from January 7, 1997 to October 13, 1998 and the complaints allege that the
defendants concealed and/or misrepresented material adverse information about
the Company and the individual defendants sold shares of the Company's stock
based upon material nonpublic information. The complaints seek unspecified
monetary damages. There has been no discovery and no actions have been taken.
The Company believes that the above complaints are without merit and
intends to defend them vigorously. However, litigation is subject to inherent
uncertainties and, thus, there can be no assurance that these complaints will
be resolved favorably to the Company or that they will not have a material
adverse effect on the Company's financial condition and results of
operations. No provision for any liability that may result upon adjudication
has been made in the accompanying financial statements.
The Company and its subsidiaries are also parties to various other
legal actions and administrative proceedings. The Company believes that the
disposition of these matters will not have a material effect on the financial
position of the Company.
6
<PAGE>
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THIS MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS AND OTHER PARTS OF THIS FORM 10Q CONTAIN
FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES. ALL
FORWARD-LOOKING STATEMENTS INCLUDED IN THIS DOCUMENT ARE BASED ON INFORMATION
AVAILABLE TO THE COMPANY ON THE DATE HEREOF, AND THE COMPANY ASSUMES NO
OBLIGATION TO UPDATE ANY SUCH FORWARD-LOOKING STATEMENTS. THE COMPANY'S
ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE
FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN FACTORS, INCLUDING THOSE
SET FORTH IN "FACTORS AFFECTING FUTURE RESULTS".
RESULTS OF OPERATIONS
The Company has been profitable each year since fiscal 1994, before
purchase accounting adjustments. The Company's profitability is contingent on
a number of factors, many of which are outside of its control. These factors
include the overall rate of growth in the color server market, the impact of
economic conditions in Japan (including the dollar/yen currency exchange
rate) on the demand for Splash's products, customer purchasing patterns, and
customer distribution methods. Due to these and other factors the Company's
historical profitability will be difficult to sustain or exceed in the
future. In addition, the Company's overall expense level is expected to
increase as the Company continues to build corporate infrastructure and
expand its operations. Accordingly, the Company believes that
period-to-period comparisons of its financial results should not be relied
upon as an indication of future performance.
The Company establishes its expenditure levels for operating expenses
based on projected sales levels and margins, and expenses are relatively
fixed in the short term. Moreover, the Company expects to continue to expand
its sales and marketing, technical and customer support, research and product
development and administrative activities. Accordingly, if sales are below
expectations in any given quarter, the adverse impact of the shortfall in
revenues on operating results may be increased by the Company's inability to
adjust spending in the short term to compensate for the shortfall.
The following table sets forth consolidated statement of operations
data as a percentage of net revenue for the periods indicated:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1999 1998 1999
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Net revenue 100% 100% 100% 100%
Cost of net revenue 46 47 46 46
-- -- -- --
Gross profit 54 53 54 54
-- -- -- --
Operating expenses:
Research and development 15 25 15 22
Sales, general and administrative 15 25 16 24
Facility closure charge - 6 - 2
-- -- -- --
Total operating expenses 30 56 31 48
-- -- -- --
Income (loss) from operations 24 (3) 23 6
-- -- -- --
Interest income 2 4 2 4
-- -- -- --
Income before income taxes 26 1 25 10
Provision for income taxes 8 - 8 2
-- -- -- --
Net income 18 1 17 8
== == == ==
</TABLE>
NET REVENUE. The Company's net revenue decreased 34% to $16.7 million
in the three months ended September 30, 1999 from $25.3 million in the three
months ended September 30, 1998. The Company's net revenue decreased 28% to
$50.0 million in the nine months ended September 30, 1999 from $69.1 million
in the nine months ended September 30, 1998. These decreases were primarily
attributable to lower average selling prices ("ASPs") of the Company's
products as well as an immaterial level of sales to its customer in Japan.
The Company sells a range of products, and the revenue for any period will be
determined by the product mix sold in that period. The lower ASPs also
reflect a shift in product toward the Company's M Series Intel-based, and
integrated products. These products have selling prices that are
significantly lower than those of the PCI, DC and G Series products. For
example, the lowest priced M Series product has a selling price of less than
half that of the lowest priced G Series product.
During the third quarter the Company delivered its first integrated
product. This product has significantly lower gross margins. In addition, the
Company experienced a decrease in shipments of its Intel based M Series
products primarily related to Xerox's reduced shipment of M Series compatible
copiers. A decrease in M Series shipments, in addition to shipments of
integrated product, had an adverse affect on the Company's operating results.
During the quarter ended September 30, 1999, the Company also launched its
G610 and G710 server products. These products replaced the Company's PCI and
DC Series products, respectively. The ASPs of these newly introduced products
are lower than those of the PCI and DC Series products they replace. The G610
is only compatible with Xerox's newly introduced DC12 color laser copier. If
the newly introduced Xerox DC12 color laser copier has low levels of market
acceptance the Company's operating results would be adversely affected.
7
<PAGE>
The Company sells a substantial portion of its products to two customers,
Xerox Corporation ("Xerox"), and to a lesser extent, Fuji Xerox Company Ltd.
("Fuji Xerox") on an OEM basis and, historically, fluctuations in net revenue
are in part due to the purchasing patterns of these customers. There can be
no assurance that either of the Company's two major customers, Xerox and Fuji
Xerox, will not change their mix of product or purchasing patterns in a
manner which would adversely impact net revenue. In the case of Fuji Xerox,
the Company has been materially affected by an immaterial level of sales to
this customer for sale in Japan in the current quarter. The Company does not
expect significant sales to Fuji-Xerox for resale in Japan for at least the
near term. During 1999, Fuji-Xerox changed the means by which it sold
products in Japan, requiring that its OEM suppliers have a sales support and
marketing organization in Japan. Until recently, the Company had a limited
sales support and marketing presence in Japan and only recently began the
process of adding personnel in Japan.
All sales to Fuji Xerox, and a portion of the Company's sales to Xerox,
are international sales. In addition, given Xerox's international customer
base, the Company believes that a portion of Splash products purchased by
Xerox in the U.S. are resold outside the United States. The Company expects
that direct and indirect international sales will continue to represent a
substantial portion of its net revenue for the foreseeable future. While the
Company's international sales are generally denominated in U.S. dollars,
fluctuations in currency exchange rates could cause, and, in the case of
Japan, have caused, the Company's products to become relatively more
expensive to end users in a particular country, leading to pressure to reduce
the U.S. dollar denominated price to the Company's OEM customers. Such
pressure could in turn result in a reduction in net revenue and profitability.
GROSS MARGIN. Gross margins were 54% and 53% in the three months ended
September 30, 1998 and 1999, respectively. Gross margins were 54% in both the
nine months ended September 30, 1998 and 1999. Underlying these stable gross
margins was a favorable variance related to economies of scale derived from
higher unit volumes and reductions in component costs achieved through new
product designs and favorable component pricing offset by lower ASPs. The
Company expects that gross margins will fluctuate from period to period and
will decrease in at least the near-term. Gross margin is affected by a number
of factors, including product mix, product pricing and manufacturing and
component costs. The average selling price of the Company's products has
decreased in the past primarily as a result of competitive market pressures,
the introduction of lower priced products and, in certain cases, in response
to new product introductions by the Company's customers and competitors.
During the second half of the year the Company delivered its first integrated
product. This product has significantly lower gross margins. In addition, the
Company experienced a decrease in shipments of its Intel based M Series
products primarily related to Xerox's reduced shipments of M Series
compatible copiers. A decrease in M Series shipments, in addition to
substantial shipments of integrated products, had an adverse affect on the
Company's operating results.
During the quarter ended September 30, 1999, the Company also launched
its G610 and G710 server products. These products replaced the Company's PCI
and DC Series products, respectively. The ASPs of these newly introduced
products are lower than those of the PCI and DC Series products they replace.
The G610 is only compatible with Xerox's newly introduced DC12 color laser
copier. If the newly introduced Xerox DC12 color laser copier has low levels
of market acceptance, the Company's operating results would be adversely
affected. The Company expects a lower gross margin on its G Series products.
Any decline in average selling prices, such as was experienced in the current
quarter, which is not offset by a reduction in production costs or by sales
of other products with higher gross margins will decrease the Company's
overall gross margin and adversely affect the Company's operating results.
RESEARCH AND DEVELOPMENT. Research and development expenses increased
14% to $4.2 million in the three months ended September 30, 1999 from $3.7
million in the three months ended September 30, 1998. Research and
development expenses increased 9% to $11.2 million in the nine months ended
September 30, 1999 from $10.3 million in the nine months ended September 30,
1998. As a percentage of net revenue, research and development increased to
25% in the three months ended September 30, 1999 from 15% in the three months
ended September 30, 1998. As a percentage of net revenue research and
development expenses increased to 22% in the nine months ended September 30,
1999 from 15% in the nine months ended September 30, 1998. These percentage
increases reflect primarily a decline in net revenue as well as increased
spending on the Company's integrated controller product. If revenues fall
below expectations, these percentages may increase due to the Company's
inability to adjust research and development expenses to compensate for the
revenue shortfall. Except for charges related to acquisitions, all research
and development costs to date have been expensed as incurred. In view of
current projects under development and planned, research and development
expenses may vary in absolute dollars and such expenses will vary as a
percentage of net revenue.
SALES, GENERAL AND ADMINISTRATIVE. Sales, general and administrative
increased 14% to $4.2 million in the three months ended September 30, 1999
from $3.7 million in the three months ended September 30, 1998. Sales,
general and administrative expenses increased 8% to $12.2 million in the nine
months ended September 30, 1999 from $11.3 million in the nine months ended
September 30, 1998. As a percentage of net revenue, sales, general and
administrative expenses increased to 25% in the three months ended September
30, 1999 from 15% in the three months ended September 30, 1998. As a
percentage of net revenue, sales, general and administrative expenses
increased to 24% in the nine months ended September 30, 1999 from 16% in the
nine months ended September 30, 1998. These percentages increase primarily
reflect a decline in net revenue. If revenues fall below expectations, these
percentages may increase due to the Company's inability to adjust sales,
general and administrative expenses to compensate for the revenue shortfall.
The Company believes that its sales, general and administrative expenses will
increase in absolute dollars in the foreseeable future as it continues to
implement additional management and operational systems, and expand its
administrative staff. Sales, general, and administrative expenses are
8
<PAGE>
expected to increase in absolute dollars in future periods, although such
expenses may vary as a percentage of net revenue.
FACILITY CLOSURE CHARGE. During the quarter ended September 30, 1999,
the Company consolidated its research and development efforts for its
integrated controller product lines into its Sunnyvale, California facility.
As a result of this consolidation the Company closed its facility in
Westminster, California. This facility closure resulted in a non-recurring
charge of approximately $1.0 million. This charge was comprised of severance
costs, a write down in fixed assets, and losses related to the vacated
building lease.
PROVISION FOR INCOME TAXES. The Company accounts for income taxes in
accordance with the Financial Accounting Standards Board's Statement of
Financial Accounting Standard No.109 "Accounting for Income Taxes". The
Company's effective tax rate was 22% and 34% for the nine months ended
September 30, 1999 and 1998, respectively. The effective tax rate differs
from the statutory rate primarily due to the benefits derived from the Splash
Foreign Sales Corporation and research and development credits.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 1999, the Company had $64.7 million of cash, cash
equivalents and marketable securities and had no borrowings under its $10
million bank line of credit. Borrowings under the line of credit bear
interest at the prime rate and are available under the line of credit based
on a percentage of eligible accounts receivable.
For the nine months ended September 30, 1998, the Company generated
$12.9 million in cash from operating activities primarily due to a decrease
in inventories and increases in trade accounts payable and accrued and other
liabilities, partially offset by increases in accounts receivable. For the
nine months ended September 30, 1999, the Company generated $3.3 million in
cash from operating activities, primarily due to an increase in accounts
payable and a decrease in inventories, partially offset by an increase in
accounts receivable and other assets and a decrease in accrued and other
accrued liabilities.
In the nine months ended September 30, 1998, investing activities
provided $1.6 million, primarily from the redemption of marketable
securities. For the nine months ended September 30, 1999, the Company
consumed $5.3 million in investing activities, primarily related to the
purchase of marketable securities.
Financing activities were not material for the nine months ended
September 30, 1998 and 1999. The Company has no material financing
commitments other than its obligations under operating leases.
The Company believes that cash flows from operations and existing cash
balances will be sufficient to satisfy the Company's cash requirements for at
least the next twelve months.
YEAR 2000 ISSUES
Many currently installed computer systems and software products 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
twenty-first century dates from twentieth century dates. As a result, many
companies' software and computer systems may need to be upgraded or replaced
in order to comply with such "Year 2000" requirements. The Company has tested
its current products for Year 2000 compliance and believes that its current
products are Year 2000 compliant. However, the failure of the Company's
current or prior products to operate properly with regard to the Year 2000
requirements could cause the Company to incur unanticipated expenses to
remedy any problems, could cause a reduction in sales and could expose the
Company to related litigation by its customers, each of which could have a
material adverse effect on the Company's business, operating results and
financial condition.
Although the Company believes that its products and systems are Year
2000 compliant, the Company utilizes third party equipment and software that
may not be Year 2000 compliant. The Company has made inquiries to its major
material equipment and software suppliers as to the Year 2000 compliance of
their products. Each such supplier has indicated that its equipment and/or
software either is, or will be by December 31, 1999, Year 2000 compliant.
Failure of such third-party equipment or software to operate properly with
regard to the year 2000 and thereafter could require the Company to incur
unanticipated expenses to remedy any problems, which could have a material
adverse effect on the Company's business, operating results and financial
condition.
The Company also has material relationships with third party suppliers
and service providers who may utilize equipment or software that may not be
Year 2000 compliant, such as financial institutions, shipping companies and
payroll services. The Company has conducted Year 2000 compliance inquiries of
such third parties. Based upon the results of such inquiries, the Company has
taken appropriate action. Nonetheless, while the Company would be affected by
any such failure, the Company believes that it could continue to operate
despite any such failure of a material party to be Year 2000 compliant.
Failure of any third-party's equipment or software to operate properly with
regard to the Year 2000 requirements could cause the Company to incur
unanticipated expenses to remedy any problems and could cause a reduction in
sales, each of which could have a material adverse effect on the Company's
business, operating results and financial condition.
9
<PAGE>
The business, operating results and financial condition of the
Company's customers could also be adversely affected to the extent that they
utilize equipment or software that is not Year 2000 compliant. Furthermore,
the purchasing patterns of customers or potential customers may be affected
by Year 2000 issues as companies expend significant resources to correct
their current systems for Year 2000 compliance. These expenditures may result
in reduced funds available to purchase products and services such as those
offered by the Company, which could have a material adverse effect on the
Company's business, operating results and financial condition.
The Company has not established a formal contingency plan for any
potential failure of any of the Company's or any third party's equipment or
software, but the Company plans to create such a formal contingency plan.
The Company has, and will continue to make, certain investments in its
equipment, software systems and applications to ensure that the Company is
Year 2000 compliant and to evaluate the Year 2000 preparedness of the
material third parties with whom it deals. To date, the Company has primarily
used existing personnel to evaluate the Year 2000 exposure. The financial
impact to the Company for Year 2000 compliance has not been and is not
anticipated to be material to its financial position, results of operations
or cash flows in any given year.
FACTORS AFFECTING FUTURE RESULTS
FLUCTUATIONS IN OPERATING RESULTS; SEASONAL PURCHASING PATTERNS. The
Company's operating results have fluctuated and will likely continue to
fluctuate in the future on a quarterly and annual basis as a result of a
number of factors, many of which are outside the Company's control. These
fluctuations are in part due to the purchasing patterns of the Company's two
large customers, Xerox and Fuji Xerox. These customers have historically made
a significant portion of their purchases of the Company's products in the
June quarter and September quarter. As a result, the Company's sales have
historically been lower, and are expected to be lower, in the December and
March quarters than in the preceding September and June quarters. In
addition, any increases in inventories held by the Company's customers could
also result in variations in the timing of purchases by such customers. There
can be no assurance that the Company will receive sufficient inventory
information from its OEM customers or that the Company will be able to
prevent significant inventory issues in the future. In 1999 the Company has
suffered a substantial decrease in sales to its customer, Fuji Xerox. This
has materially adversely affected the Company's business and operating
results. Also, announcements by the Company or its competitors of new
products and technologies could cause customers to defer purchases of the
Company's existing products. In the event that anticipated orders from end
users fail to materialize, or delivery schedules are deferred or canceled as
a result of the above factors or other unanticipated factors, it would
materially and adversely affect the Company's business, operating results and
financial condition.
Results in any period could also be affected and in the current year
have been materially adversely affected by changes in market demand,
competitive market conditions, sales promotion activities by the Company, its
OEM customers or its competitors, market acceptance of new or existing
products, sales of color copiers with which the Company's products are
compatible, the cost and availability of components, the mix of the Company's
customer base and sales channels, the amount of any third-party funding of
development expenses, the mix of products sold, the Company's ability to
effectively expand its sales and marketing organization, the Company's
ability to attract and retain key technical and managerial employees, and
general economic conditions. As a result, the Company believes that
period-to-period comparisons of its results of operations are not necessarily
meaningful and should not be relied upon as indicative of future performance.
Due to all of the foregoing factors, the Company's operating results in one
or more future periods may be subject to significant fluctuations. In the
event this results in the Company's financial performance being below the
expectations of public market analysts and investors, the price of the
Company's Common Stock would be materially and adversely affected.
The Company's gross margin is affected by a number of factors,
including product mix, product pricing, and manufacturing, component and
royalty costs. The average selling price of the Company's products has
decreased substantially in the past primarily as a result of competitive
market pressures, the introduction of lower priced products and, in certain
cases, in response to new product introductions by the Company's customers.
The Company expects this trend to continue. During the quarter ended June 30,
1999 unit sales of Intel based M Series products, for the first time,
exceeded unit sales of the PCI and DC Series. The Company's M Series and
integrated products have selling prices that are significantly lower than
those of the PCI Series, DC and G Series. For example, the Company's lowest
priced M Series product has a selling price less than half that of the lowest
priced G Series product. During the second half of the year the Company
delivered its first integrated product. This product line is expected to have
significantly lower gross margins. In addition, the Company expects a
decrease in shipments of its Intel based M Series products primarily related
to Xerox's reduced shipments of M Series compatible copiers. A decrease in M
Series shipments, in addition to substantial shipments of integrated product,
may have a significant adverse affect on the Company's operating results.
During the quarter ended September 30, 1999, the Company also launched its
G610 and G710 server products. These products replaced the Company's PCI and
DC Series products, respectively. The ASPs of these newly introduced products
are lower than those of the PCI and DC Series products they replace. The G610
is only compatible with Xerox's newly introduced DC12 color laser copier. If
the newly introduced Xerox DC12 color laser copier has low levels of market
acceptance the Company's operating results would be adversely affected. The
Company expects a lower gross margin on its G Series products. In the event
of significant price competition in the market for color copier servers or
competitive systems, the Company could be at a significant disadvantage
compared to its competitors, many of which have substantially greater
resources or lower product costs than the Company and therefore could more
readily withstand an extended period of
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downward pricing pressure. Any decline in average selling prices of a
particular product, such as was experienced in the current quarter, which is
not offset by a reduction in production costs or by sales of other products
with higher gross margins would decrease the Company's overall gross margin
and adversely affect the Company's operating results. The Company establishes
its expenditure levels for product development and other operating expenses
based on projected sales levels and margins, and expenses are relatively
fixed in the short term. Accordingly, if sales are below expectations, as
they were in the current quarter, the adverse impact of the shortfall on the
Company's operating results may be increased by the Company's inability to
adjust spending in the short term to compensate for the shortfall.
EMERGING COLOR SERVER MARKET. The market for the Company's color server
products has only recently begun to develop. Because the markets for digital
color copiers and connected color servers are relatively new, and because
current and future competitors are likely to continue to introduce competing
solutions, it is difficult to predict the rate at which these markets will
grow, if at all. The color server market has grown more slowly than
anticipated. If the market continues to grow slowly, or not grow at all, the
Company's business, operating results and financial condition will be and
have been adversely affected. The Company intends to continue to spend
resources educating potential customers about color servers. However, there
can be no assurance that such expenditures will enable the Company's products
to achieve any additional degree of market acceptance. Moreover, the Company
has historically focused on certain segments of the market (the prepress and
graphic arts segments) and has had only limited penetration to date into the
broader office segment or other market segments. There can be no assurance
that the Company will be able to maintain or increase its presence in its
existing market segments or to successfully penetrate such additional market
segments.
DEPENDENCE ON XEROX AND FUJI XEROX. The Company's products operate
primarily with certain color laser copiers offered by Xerox and Fuji Xerox,
and the Company currently sells its products primarily to Xerox and Fuji
Xerox, which resell the Company's products on an OEM basis to their color
copier end users. As a result, sales of the Company's products have been and
will continue to be heavily influenced by the market acceptance of the Xerox
and Fuji Xerox color copiers with which the Company's products operate and
the sales efforts of Xerox and Fuji Xerox with respect to Splash products.
Xerox and Fuji Xerox face substantial competition from other manufacturers of
color copiers, including Canon Inc. ("Canon"), which the Company believes has
the largest share of the worldwide market for color copiers. If sales of the
color copiers of Xerox and Fuji Xerox with which Splash's products are
compatible decrease, the Company's business, operating results and financial
condition would be and have been in the past, materially and adversely
affected. During 1999, sales of Splash compatible copiers by Fuji Xerox have
been significantly lower than in prior periods. In particular, sales to
Fuji Xerox of products for resale in Japan have been insignificant in 1999.
This reduction in sales has, and any continued reduction from historical
levels could, materially and adversely affect the Company's business,
operating results and financial condition. Similarly, if Xerox or Fuji Xerox
were to introduce color copiers that are not compatible with the Company's
products, or if Xerox or Fuji Xerox were to introduce color copiers that
already contain a significant portion of the functionality of the Company's
products so as to render the Company's products unnecessary, the Company's
business, operating results and financial condition will be materially and
adversely affected. In addition, Fuji Xerox color copiers are produced in a
single location in Japan, and any disruption of production at such facility
could materially and adversely affect the Company's business, operating
results and financial condition.
As a result of its reliance on Xerox and Fuji Xerox, the Company
currently has a relatively small sales and marketing organization and has
limited experience with direct sales efforts. Any change in the sales and
marketing efforts of Xerox or Fuji Xerox with respect to Splash's products,
including any reduction in the size or effectiveness of the Xerox or Fuji
Xerox sales and marketing forces, or changes in incentives for Xerox or Fuji
Xerox salespersons to sell Splash products or color servers produced by
competitors of Splash, could have and has had a material adverse effect on
the Company's business, operating results and financial condition. During
1999, Fuji Xerox changed the means by which it sold products in Japan,
requiring that its OEM suppliers have a sales support and marketing
organization in Japan. Until recently, the Company had a limited sales
support and marketing presence in Japan and only recently began the process
of adding personnel in Japan.
Xerox currently sells a substantial number of color servers made by
companies other than Splash, including those of the Company's principal
competitor, EFI. The Company is a supplier of color servers to Fuji Xerox.
However, Fuji Xerox has increased the number of color servers sold to end
users that were manufactured by companies other than Splash, including EFI.
In addition, the Company is required to permit testing by Xerox and Fuji
Xerox of the beta release of the Company's products (including components
contained therein) and cannot begin shipping any version to Xerox or Fuji
Xerox until such version and components meet their respective quality
standards. Any delay in meeting such respective standards would have a
detrimental effect to the Company. Xerox and Fuji Xerox promote the use of
color servers manufactured by competitors of the Company to the detriment of
sales of the Company's products. Either Xerox or Fuji Xerox may choose to
manufacture color servers themselves, may choose to manufacture only color
copiers that are not compatible with Splash products, or may otherwise
reduce, delay or cease purchases and sales of Splash color servers. Although
the Company has a contract with Xerox, the Company does not have a contract
with Fuji Xerox with respect to its products and is currently operating on a
purchase order basis with Fuji Xerox. There can be no assurance as to the
level of orders from Xerox under its contract or that the Company will
continue to receive orders from Xerox or Fuji Xerox. Any decrease in the
level of sales to Xerox or continued decrease in the level of sales to Fuji
Xerox would have a material adverse effect on the Company's business,
operating results and financial condition.
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INVENTORY RISKS. Xerox and Fuji Xerox may from time to time carry
excess inventory of Splash color servers, inaccurately project future demand
for Splash products or fail to optimally manage their ordering of Splash
products, any of which could result in a significant decrease in orders from
such customers in subsequent periods. The Company believes that inventory
levels have, in the past, been and may still be higher than normal at its
customers which materially adversely affects the Company's business and
operating results. There can be no assurance that the Company will receive
sufficient information from Xerox, Fuji Xerox or other customers over time or
that the Company will in any event be able to prevent the recurrence of
similar problems in the future. As a result, Splash's customers, among other
things, may be required to discount excess inventory, may experience
difficulty in selling excess inventory, may experience reduced sales of new
products or may become dissatisfied with their relationship with Splash. The
Company's customers, in an effort to reduce their inventory levels, order
product with increasingly shorter lead times. If the Company can not deliver
product within these shortened lead times it would have a materially adverse
affect on the Company's results. Although customers have no commercial right
of return with respect to the Company's products, there can be no assurance
that the Company will not elect to make accommodations to significant
customers. Reduced sales of Splash products by Xerox or Fuji Xerox or any
financial or other accommodation made to Xerox or Fuji Xerox have had and
would have in the future a material adverse effect on the business, operating
results and financial condition of Splash.
DEPENDENCE ON ADOBE SYSTEMS INCORPORATED. The majority of the Company's
products depend on the PostScript page description language software
developed by Adobe Systems Incorporated ("Adobe") and licensed by the Company
from Adobe on a non-exclusive basis. Any delay in the release of future
versions of PostScript by Adobe or in the upgrade of the Company's products
to be compatible with current or future versions of PostScript, or any
material defects in any versions of PostScript software (including defects
identified in connection with upgrades of the Company's products), could have
a material adverse effect on the Company's business, operating results and
financial condition. The Company has, and may continue to experience, delays
in the release of its products due to Adobe product delays. The Company is
required to pay a royalty for each copy of PostScript that is incorporated in
Splash products, which royalty constitutes a substantial portion of the total
manufactured cost of the Company's products. In addition, the Company is
required to permit testing by Adobe of the beta release version of the
Company's products, and the Company cannot begin shipping any version until
such version meets Adobe's quality standards. The license agreement between
the Company and Adobe expires in September 1999, subject to renewal upon
mutual consent. There can be no assurance that Adobe will continue to enjoy
its leadership position in the market, renew the current license at the end
of its term or license future versions of PostScript to Splash on terms
favorable to Splash or at all. If the license agreement between Adobe and the
Company is terminated for any reason or the Company's relationship with Adobe
is impaired, the Company could be required to change to an alternative page
description language which would require the expenditure of significant
resources and time and could significantly limit the marketability of the
Company's products. Any increase in royalties payable to Adobe also could
have a material adverse effect on the Company's operating results. In
addition, the Adobe PostScript software is incorporated in the products of
certain of the Company's competitors. The Company's business could be
materially and adversely affected if Adobe were to make available to the
Company's competitors future versions of Adobe PostScript software that
include enhancements to the Adobe PostScript software that were originally
developed or implemented by Splash.
DEPENDENCE ON COMPONENT AVAILABILITY, COST, AND CERTAIN SUPPLIERS. The
majority of the Company's current products require the use of an Apple as a
computer platform. In the past, Apple has experienced significant financial
difficulties and losses in market acceptance, and its products have
particularly low levels of market acceptance in the office color printing
market into which the Company is seeking to expand. In addition, Apple has
experienced significant changes in management. If Apple were to discontinue
production of models with which Splash products operate or were unable to
provide or otherwise cease to provide an acceptable level of end user
customer support, the Company's business, operating results and financial
condition would be materially and adversely affected. For example, Apple
phased out the manufacture of Power Macintosh products based on the NuBus
architecture in the second half of calendar 1995 in favor of Power Macintosh
products based on the PCI bus architecture. As a result, the Company had to
expend significant resources and faced substantial risk of technological
failure or lack of market acceptance in developing and introducing its
PCI-based products. In addition, the Company has experienced sourcing
difficulties related to Apple's delay in the release of new models. The
Company ships products which may contain discontinued components. The Company
has experienced sourcing difficulties in procuring discontinued components in
the past. There can be no assurance that the Company will not experience
similar difficulties in the future. Any extended delay between the
discontinuation of an existing model and the release of an enhanced model by
Apple could have a material adverse effect on the Company's business,
financial condition and results of operations. Any efforts of the Company to
migrate its products to different computer platforms will require a
substantial expenditure of resources and time, and there can be no assurance
that any such products can be successfully developed or introduced in a
timely fashion and at competitive cost or otherwise achieve widespread market
acceptance.
Certain components necessary for the manufacture of the Company's
products are obtained from a sole supplier or a limited group of suppliers.
These include Intel motherboards and processors, certain ASICs and other
semiconductor components. The Company does not maintain any long-term
agreements with any of its suppliers of components. Because the purchase of
certain key components involves long lead times, in the event of
unanticipated increases in demand for the Company's products, the Company
could be unable to manufacture certain products in a quantity sufficient to
meet end user demand. The Company has experienced difficulties related to
Apple's delay in the release of new systems and the
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discontinuation of computers used in Splash's current products. There can be
no assurance that the Company will not experience similar difficulties in the
future. The Company also purchases memory modules from several suppliers. A
change in memory suppliers could require time to effect and could impact
production. This risk would be exacerbated in times of memory supply
shortages. During the second half of 1999, the memory market has been
extremely volatile. Any inability to obtain adequate deliveries of any of the
components or any other circumstance that would require the Company to seek
alternative sources of supply could affect the Company's ability to ship its
products on a timely basis, which could damage relationships with current and
prospective customers and could therefore have a material adverse effect on
the Company's business, financial condition and operating results. Moreover,
there can be no assurance that alternative sources of supply would be
available on reasonably acceptable terms, on a timely basis, or at all. The
Company has from time to time, including in the current quarter, experienced
shortages in deliveries of certain ASICs sourced exclusively from Toshiba
Corporation, which shortages have impacted production. In order to attempt to
mitigate the risk of such shortages in the future, the Company has increased
its inventory of components for which the Company is dependent upon sole or
limited source suppliers. As a result, the Company is subject to an
increasing risk of inventory obsolescence, which could materially and
adversely affect its operating results and financial condition.
The Company purchases components comprising a portion of the total cost
of its color servers. The balance of the inventory required to manufacture
the Company's products is purchased by Logistix and SCI. The Company
currently sources most of its Apple Macintosh computers that serve as the
platforms for its DC, PCI and G series color servers from Apple. The Company is
currently operating on a purchase order basis with Apple.
The market prices and availability of certain components, particularly
memory, other semiconductor components, Apple Macintosh computers and Intel
designed components, which collectively represent a substantial portion of
the total manufactured cost of the Company's products, have fluctuated
significantly in the past. Significant fluctuations in the future could have
a material adverse effect on the Company's operating results and financial
condition.
DEPENDENCE ON THIRD PARTY MANUFACTURERS. The Company generally
outsources the manufacture of its products to third party subcontract
manufacturers including SCI and Logistix. Logistix and SCI purchase the
components used in Splash boards from their component suppliers and perform
double-sided active surface mount assembly, in-circuit test, functional test
and system test of the printed circuit boards used in the Company's products,
on a turnkey basis. SCI also performs in-warranty and out-of-warranty repair
of failed boards for the Company's products. The Company directly purchases
Apple Macintosh computers, Intel designed components, monitors and memory,
and furnishes these components, as well as the SCI-assembled boards, to
Logistix and SCI for final assembly. Logistix and SCI directly purchase a
portion of the components used in Splash color servers and do all final
assembly and system configuration.
While the Company's subcontract manufacturers conduct quality control
and testing procedures specified by the Company, the Company has from time to
time experienced manufacturing quality problems. There can be no assurance
that quality problems will not occur again in the future or that any such
problem would not have a material adverse effect on the Company's business,
operating results and financial condition.
If SCI, Logistix, or other third party manufacturing facilities
utilized by the Company become unavailable to the Company, or if the
manufacturing operations at these facilities are slowed, interrupted or
terminated, the Company's business, operating results and financial condition
could be adversely affected. Although the Company believes that there is a
variety of companies available with the capability to provide the Company
with such services, there can be no assurance that the Company would be able
to enter into alternative third party manufacturing arrangements on terms
satisfactory to the Company, in a timely fashion, or at all.
DEPENDENCE ON SINGLE PRODUCT LINE. Substantially all of Splash's
current shipments consist, and are expected to continue to consist, of the
Company's color server products. Because of this product concentration, a
significant decline in demand for or pricing of these products would have and
has had a material adverse effect on the Company's business, operating
results and financial condition, whether as a result of a decline in sales of
complementary Xerox and Fuji Xerox copiers; a decline in the market for Apple
Macintosh computers; increased sales by Xerox or Fuji Xerox of color servers
offered by competitors of the Company or developed internally by Xerox or
Fuji Xerox; new product introductions by competitors; price competition; or
technological change. Any decline in the market for this product line or any
failure to timely produce new and enhanced products would have a material
adverse effect on the Company's business, financial condition and results of
operations.
RAPID TECHNOLOGICAL CHANGE; DEPENDENCE ON NEW PRODUCT INTRODUCTIONS.
The graphics and color reproduction, color processing and personal computing
markets are characterized by rapid changes in customer requirements, frequent
introductions of new and enhanced products, and continuing and rapid
technological advancement. To compete successfully, the Company must continue
to design, develop, manufacture and sell new products that provide
increasingly higher levels of performance and reliability, take advantage of
technological advancements and changes and respond to new customer
requirements. In 1998, the Company's main competitor added enhancements to
its product that competed with the Company's DC Series products. These
enhancements have had, and may continue to have, an adverse effect on the
market acceptance of the Company's DC Series products and its successor, the
G710 product. The Company's success in designing, developing, manufacturing
and selling new products will depend on a variety of factors, including the
identification of market demand for new products, product selection, timely
implementation of product design and development, product performance, cost-
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effectiveness of current products and products under development, effective
manufacturing processes and the success of promotional efforts.
In 1999, the Company began significant volume shipments of products
based on Intel designed components as well as its new generation of Apple
based product. There can be no assurance that these Intel or Apple based
products or, for that matter, any of the Company's future products will
achieve widespread market acceptance. In addition, the Company has in the
past experienced delays in the development of new products and the
enhancement of existing products, and such delays may occur in the future. If
the Company is unable, due to resource constraints or technological or other
reasons, to develop and introduce new products or versions in a timely
manner, or if such new products or releases do not achieve timely and
widespread market acceptance, it would have a material adverse effect on the
Company's business, operating results and financial condition.
COMPETITION. The markets for the Company's products are characterized
by intense competition and rapid change. The Company competes directly with
other independent manufacturers of color servers and with copier
manufacturers, and indirectly with printer manufacturers and others. The
Company has a number of direct competitors for color server products, the
most significant of which is EFI. Splash also faces competition from copier
manufacturers that offer internally developed color server products, such as
a non-PostScript color server offered by Fuji Xerox, or that incorporate
color server features into their copiers. In addition, the Company faces
competition from desktop color laser printers that offer increasing speed and
color server capability. As component prices decrease and the processing
power and other functionality of copiers, printers and computers increases,
it becomes more likely that copier, printer and computer manufacturers will
continue to add color server functionality to their systems, which could
reduce the market for the Company's existing line of products.
The Company also competes indirectly with manufacturers of electronic
color prepress systems, which offer similar functionality for the short-run
and commercial printing market as is provided by the Company's products. The
Company also competes indirectly with providers of color separation, color
editing and page layout software. While such software typically is
complementary to the Company's systems, such software can also be competitive
with the Company's systems and may become increasingly competitive to the
extent that the providers of such software extend the functionality of their
products in future releases.
Many of the Company's current and potential direct and indirect
competitors have longer operating histories, are substantially larger, and
have substantially greater financial, technical, manufacturing, marketing and
other resources than Splash. A number of these current and potential
competitors also have substantially greater name recognition and a
significantly larger installed base of products than the Company, which could
provide leverage to such companies in their competition with Splash. The
Company expects competition to increase to the extent the color server market
grows, and such increased competition may result in reduced gross margins and
loss of market share and has resulted in price reductions, any of which could
and have had materially adversely affect the Company's business, operating
results and financial condition. As a result of their greater resources, many
of such competitors are in a better position than Splash to withstand
significant price competition or downturns in the economy. There can be no
assurance that Splash will be able to continue to compete effectively, and
any failure to do so would have a material adverse effect upon the Company's
business, operating results and financial condition.
RISKS ASSOCIATED WITH ACQUISITIONS. The Company frequently evaluates
potential acquisitions of complementary businesses, products and
technologies. As part of the Company's expansion plans, the Company has
acquired and may continue to acquire companies that have an installed base of
products not yet offered by the Company, have strategic distribution channels
or customer relationships, or otherwise present opportunities which
management believes may enhance the Company's competitive position. The
success of any acquisition could depend not only upon the ability of the
Company to acquire such businesses, products and technologies on a
cost-effective basis, but also upon the ability of the Company to integrate
the acquired operations or technologies effectively into its organization, to
retain and motivate key personnel of the acquired businesses, and to retain
the significant customers of the acquired businesses. Any acquisition,
depending upon its size, could result in the use of a significant portion of
the Company's cash, or if such acquisition is made utilizing the Company's
securities, could result in significant dilution to the Company's
stockholders. Moreover, such transactions involve the diversion of
substantial management resources and evaluation of such opportunities
requires substantial diversion of engineering and technological resources. In
addition, such transactions could result in large one time write-offs or the
creation of goodwill or other intangible assets that would result in
amortization expenses. To date, the Company has completed two acquisitions;
Quintar Company ("Quintar") and ColorAge ("ColorAge") in May and October of
1997, respectively.
There can be no assurance that acquired technology can be successfully
developed on a timely basis or at all, or that products based on acquired
technology will receive widespread market acceptance. Moreover, there can be
no assurance that the Company can successfully integrate acquired technology.
The failure to successfully evaluate, negotiate and effect acquisition
transactions could have a material adverse effect on the Company's business,
operating results and financial condition.
MANAGEMENT OF EXPANDING OPERATIONS. The growth in the Company's
business has placed, and any further expansion would continue to place, a
significant strain on the Company's limited personnel, management and other
resources. The Company's ability to manage any future expansion effectively
will require it to attract, train, motivate and manage new employees
successfully, to integrate new management and employees into its overall
operations and to continue to improve its operational, financial and
management systems. Moreover, the Company expects to continue to increase the
size of its
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domestic and international sales support staff and the scope of its sales and
marketing activities, and to hire additional research and development
personnel. The Company's failure to manage any expansion effectively,
including any failure to integrate new management and employees or failure to
continue to implement and improve financial, operational and management
controls, systems and procedures, could have a material adverse effect on the
Company's business, operating results and financial condition.
DEPENDENCE ON PROPRIETARY TECHNOLOGY; RELIANCE ON THIRD PARTY LICENSES.
The Company relies in part on trademark, copyright and trade secret law to
protect its intellectual property in the United States and abroad. The
Company seeks to protect its software, documentation and other written
materials under trade secret and copyright laws, which afford only limited
protection, and there can be no assurances that the steps taken by the
Company will prevent misappropriation of its technology. The Splash software
included as a part of the Company's products is sold pursuant to "shrink
wrap" licenses that are not signed by the end user and, therefore, may be
unenforceable under the laws of certain jurisdictions. The Company owns
several patents. There can be no assurance that any patent, trademark or
copyright owned by the Company, or any patent, trademark or copyright
obtained by the Company in the future, will not be invalidated, circumvented
or challenged, that the rights granted thereunder will provide competitive
advantages to the Company or that any of the Company's pending or future
patent applications will be issued with the scope of the claims sought by the
Company, if at all. In addition, the laws of some foreign countries do not
protect the Company's proprietary rights as fully as do the laws of the
United States. Thus, effective intellectual property protection may be
unavailable or limited in certain foreign countries. There can be no
assurance that the Company's means of protecting its proprietary rights in
the United States or abroad will be adequate or that others will not
independently develop technologies that are similar or superior to the
Company's technology, duplicate the Company's technology or design around any
patent of the Company. Moreover, litigation may be necessary in the future to
enforce the Company's intellectual property rights, to determine the validity
and scope of the proprietary rights of others or to defend against claims of
infringement or invalidity. Such litigation could result in substantial costs
and diversion of management time and resources and could have a material
adverse effect on the Company's business, operating results and financial
condition.
There have been substantial amounts of litigation in the computer and
related industries regarding intellectual property rights, and there can be
no assurance that third parties will not claim infringement by the Company of
their intellectual property rights. The addition of Splash as a defendant in
any claims that the Company is infringing on proprietary rights of others,
with or without merit, could be time-consuming to defend, result in costly
litigation, divert management's attention and resources, and cause product
shipment delays. If the Company were found to be infringing on the
intellectual property rights of any third party, the Company could be subject
to liabilities for such infringement, which liabilities could be material,
and could be required to seek licenses from other companies or to refrain
from using, manufacturing or selling certain products or using certain
processes. Although holders of patents and other intellectual property rights
often offer licenses to their patent or other intellectual property rights,
no assurance can be given that licenses would be offered or that the terms of
any offered license would be acceptable to the Company. Any need to redesign
the products or enter into any royalty or licensing agreement could have a
material adverse effect on the Company's business, operating results and
financial condition.
The Company relies upon certain software licensed from third parties.
There can be no assurance that the software licensed by the Company will
continue to provide competitive features and functionality or that licenses
for software currently utilized by the Company or other software which the
Company may seek to license in the future will be available to the Company on
commercially reasonable terms. The loss of, or inability to maintain,
existing licenses could result in shipment delays or reductions until
equivalent software or suitable alternative products could be developed,
identified, licensed and integrated, and the inability to license key new
software that may be developed, on commercially reasonable terms, would have
a material adverse effect on the Company's competitive position. Any such
event would materially adversely affect the Company's business, operating
results and financial condition.
RISK OF PRODUCT DEFECTS. The Company's products consist of hardware and
software developed by Splash and others. Products such as those of the
Company may contain undetected errors when first introduced or when new
versions are released, and the Company has in the past discovered software
and hardware errors in certain of its new products after their introduction.
There can be no assurance that errors would not be found in new versions of
Splash products after commencement of commercial shipments, or that any such
errors would not result in a loss of or delay in market acceptance and have a
material adverse effect upon the Company's business, operating results and
financial condition. In addition, errors in the Company's products (including
errors in licensed third party software) detected prior to new product
release could result in delay in the introduction of new products and
incurring of additional expense, which also could have a material adverse
effect upon the Company's business, operating results and financial condition.
INTERNATIONAL SALES. All sales to Fuji Xerox are international sales.
In addition, although a majority of sales to Xerox are accounted for as U.S.
sales, Xerox has a significant international customer base, and the Company
believes that a portion of Splash products purchased by Xerox are resold
outside the United States. The Company expects that direct and indirect
international sales will continue to represent a substantial portion of its
net revenue for the foreseeable future. While the Company's international
sales are generally denominated in U.S. dollars, fluctuations in currency
exchange rates could cause the Company's products to become relatively more
expensive to end users in a particular country, leading to pressure to reduce
the U.S. dollar denominated price to the Company's OEM customers, which could
in turn result in a reduction in net revenue and profitability. In addition,
to the extent that an increased portion the Company's sales are denominated
in foreign currencies, the Company could be exposed to currency exchange
risks. Other risks inherent in international sales include unexpected
15
<PAGE>
changes in regulatory requirements, tariffs and other trade barriers and
uncertainties relative to regional circumstances. These risks, and in
particular risks related to the economic circumstances in Japan, could have a
material adverse affect on the Company's business, operating results and
financial condition. In addition, the Company's business, operating results
and financial condition would be materially adversely affected if foreign
markets do not continue to develop.
DEPENDENCE ON KEY PERSONNEL. Because of the nature of the Company's
business, the Company is highly dependent on the continued service of, and on
its ability to attract and retain, qualified technical, marketing, sales and
managerial personnel, including senior members of management. The competition
for such personnel is intense, and the loss of any of such persons, as well
as the failure to recruit additional key technical and sales personnel in a
timely manner, would have a material adverse effect on the Company's business
and operating results. There can be no assurance that the Company will be
able to continue to attract and retain the qualified personnel necessary for
the development of its business. The Company currently does not have
employment contracts with any of its employees and does not maintain key
person life insurance policies on any of its employees. During the first half
of 1999 the Company's chief financial officer and vice president of sales and
marketing left the Company. As a result, the Company is highly dependent on
the services of its Chief Executive Officer, Kevin Macgillivray. The loss of
his services could have a material adverse effect on the Company's business.
YEAR 2000 ISSUES. Many currently installed computer systems and
software products 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 twenty-first century dates from twentieth century dates. As a
result, many companies' software and computer systems may need to be upgraded
or replaced in order to comply with such "Year 2000" requirements. Although
the Company believes that its products and systems are Year 2000 compliant,
the Company utilizes third party equipment and software that may not be Year
2000 compliant. Failure of such third-party equipment or software to operate
properly with regard to the year 2000 and thereafter could require the
Company to incur unanticipated expenses to remedy any problems, which could
have a material adverse effect on the Company's business, operating results
and financial condition. Furthermore, the purchasing patterns of customers or
potential customers may be affected by Year 2000 issues as companies expend
significant resources to correct their current systems for Year 2000
compliance. These expenditures may result in reduced funds available to
purchase products and services such as those offered by the Company, which
could have a material adverse effect on the Company's business, operating
results and financial condition.
16
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
On January 13 and 28, 1999, two class action complaints were
filed in the United States district Court for the Northern
District of California against the Company, certain of its
officers and directors, and certain underwriters. The
complaints allege that defendants made false and misleading
statements about the Company's business condition and
prospects during a class period of January 7, 1997 through
October 13, 1998, and assert claims for violations of Sections
10(b) and 20(a) of the Securities Exchange Act of 1934 and SEC
Rule 10b-5. The complaints in both actions seek damages of an
unspecified amount.
There has been no discovery to date and no trial is scheduled
in these actions. The Company believes it has meritorious
defenses in these actions and intends to defend them
vigorously. Failure by the Company to obtain a favorable
resolution of the claims set forth in these actions could have
a material adverse affect on the Company's business, results
of operations and financial condition. Currently, the amount
of such material effect cannot be reasonably estimated.
ITEM 2. CHANGES IN SECURITIES
NONE
ITEM 3. DEFAULT UPON SENIOR SECURITIES
NONE
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
NONE
ITEM 5. OTHER INFORMATION
NONE
ITEM 6. EXHIBITS
27.1 FINANCIAL DATA SCHEDULE
REPORTS ON FOR 8-K
NONE
17
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Act of 1934, this report
has been signed and thereunto duly authorized, in the City of Sunnyvale,
State of California, on November 9, 1999.
SPLASH TECHNOLOGY HOLDINGS, INC
By: /s/ Kevin Macgillivray
--------------------------------------
Kevin Macgillivray
President and Chief Executive Officer
18
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<PERIOD-START> JAN-01-1999
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