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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
COMMISSION FILE NUMBER 1-13317
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BOX HILL SYSTEMS CORP.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEW YORK 13-3460176
(STATE OF INCORPORATION) (IRS EMPLOYER IDENTIFICATION NUMBER)
161 AVENUE OF THE AMERICAS 10013
NEW YORK, NY (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
212-989-4455
(REGISTRANT'S TELEPHONE NUMBER)
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Securities registered pursuant to Section 12(b) of the Act:
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VOTING SHARES
OUTSTANDING NAME OF EACH EXCHANGE
TITLE OF EACH CLASS AT MARCH 8, 1999 ON WHICH REGISTERED
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Common stock, $.01 par value 14,342,058 New York Stock Exchange
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Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /x/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. /x/
The aggregate market value of the voting stock held by non-affiliates of
the registrant at March 8, 1999 was $33,167,976.
Documents incorporated by reference:
Portions of Box Hill's definitive Proxy Statement dated March 31, 1999 into
Part III of Form 10-K.
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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
Certain statements contained in this report, including statements regarding
the anticipated development and expansion of the Company's business, the intent,
belief or current expectations of the Company, its directors or its officers,
primarily with respect to the future operating performance of the Company and
the products it expects to offer and other statements contained herein regarding
matters that are not historical facts, are "forward-looking" statements within
the meaning of the Private Securities Litigation Reform Act (the "Reform Act").
Future filings with the Securities and Exchange Commission, future press
releases and future oral or written statements made by or with the approval of
Box Hill which are not statements of historical fact, may contain
forward-looking statements under the Reform Act. Because such statements include
risks and uncertainties, actual results may differ materially from those
expressed or implied by such forward-looking statements. Factors that could
cause actual results to differ materially from those expressed or implied by
such forward-looking statements follow.
The Open Systems storage market in which the Company operates is
characterized by rapid technological change, frequent new product introductions,
increasing competition and evolving industry standards. Customer preferences in
that market are difficult to predict. The introduction of products embodying new
technologies, including Fibre Channel and Storage Area Network (SAN)
technologies, and the emergence of new industry standards could render the
Company's existing products as well as new products being introduced, obsolete
and unmarketable. Such new technologies also make market predictions inaccurate.
In recent periods, the Company's revenue and earning results have fallen short
of projections, which could occur again in the future. The Company relies on
other companies to supply components of its products, and certain products that
it resells, which are available only from limited sources in the quantities and
quality demanded by the Company. The Company has historically targeted
industries requiring high-end storage products, and a material portion of the
Company's net revenues to date has been derived from sales to customers in the
financial services industry and the telecommunications industry. Historically, a
majority of the Company's net revenues in each year has been derived from a
limited number of customers. The Company's growth and expansion may place a
significant strain on its administrative, operational and financial resources
and increased demands on its manufacturing, sales and customer service
functions, especially as the Company attempts to expand its geographic reach and
becomes less reliant on the financial services and telecommunications
industries. The Company's future operating results depend in part upon its
ability to attract, train, retain and motivate qualified management, technical,
manufacturing, sales and support personnel for its operations. The Company has
no patent protection for its products and has attempted to protect its
proprietary software and other intellectual property rights through copyrights,
trade secrets and other measures, which may prove to be inadequate. In the
course of business, the Company is subject to legal proceedings and claims, both
asserted or unasserted; the Company and its principal officers and directors
were named defendants in shareholder lawsuits, filed on and after December 4,
1998, which allege various securities act violations and seek monetary damages.
All forward-looking statements speak only as of the date on which they are
made. Box Hill undertakes no obligation to update such statements to reflect
events that occur or circumstances that exist after the date on which they are
made.
PART I
ITEM 1. BUSINESS:
Box Hill Systems Corp. ("Box Hill" or the "Company") is an independent
provider of high-performance data storage and Storage Area Network ("SAN")
solutions. The Company designs, manufactures, markets and supports data storage
systems for the Open Systems computing environment. The Company's storage
solutions encompass a broad range of scalable products and services targeting
high-end customers. With data becoming an increasingly critical business tool,
these customers are demanding certain characteristics in their storage systems,
particularly high availability, high performance and fault tolerance, as well as
the highest level of customer and technical support. The Company has a history
of providing high-end storage solutions that meet these requirements by
combining extensive design and implementation experience with leading edge
technologies. The Company was among the first to develop and successfully
commercialize a hot-swappable SCSI Disk Array
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storage system and a Redundant Array of Inexpensive/Independent Disks ("RAID")
storage system for UNIX. In 1997, the Company introduced the Fibre
Box(Registered), one of the first Fibre Channel storage systems. In the United
States, the Company employs a direct marketing strategy targeted at
data-intensive industries, which to date primarily include financial services,
telecommunications, health care, government/defense and academia. Abroad, the
Company teams up with local resellers to provide storage solutions to customers.
Box Hill was incorporated in New York in April 1988 and completed its initial
public offering in September 1997. Box Hill is listed on the New York Stock
Exchange ("NYSE") under the symbol BXH.
INDUSTRY OVERVIEW
The demand for Open Systems data storage is fueled by the rapid
proliferation of new data-intensive applications, such as: high-definition
television and digital broadcasting; the Internet; intranets; data warehousing;
data mining; and, the migration of mission-critical applications off mainframe
computers. Disk storage systems, tape backup systems and software-based
management tools designed to operate on multiple platforms are becoming a
strategic part of the computer environment. Computer purchase decisions are
becoming "storage centric" and, in many instances, capital expenditures on
storage systems are equal to or greater than those made on computer processing
hardware.
The high end of the Open Systems market is characterized by large capacity
UNIX and Windows NT servers operating in multi-platform environments, generally
running mission-critical applications.
The Company believes that storage purchase decisions at the high end of the
Open Systems computing environment are based on a variety of factors, including
(i) response time, capacity and minimization of downtime; (ii) data protection;
(iii) all-encompassing solutions, (iv) multi-platform compatibility, and
(v) scalability.
Current and Emerging Technologies
The Open Systems market's current storage options include Disk Arrays, RAID
storage systems and tape backup systems, each of which are generally attached to
hosts by the Small Computer Systems Interface ("SCSI") and, more recently by
Ultra SCSI Interface and Fibre Channel. Fibre Channel is an emerging high-speed
serial interface that became commercially available in 1997. Fibre Channel
enables faster data transfer to Disk Arrays and RAID storage systems. Fibre
Channel also enables Storage Area Networks (SAN). A SAN is a Fibre Channel-based
network that sits between servers and storage devices. SANs provide considerable
networking capabilities, allowing multiple hosts to have high-speed access to
multiple storage and backup devices. SAN technology, which is in its infancy,
addresses the growing demand for higher availability and increased connectivity
in Open Systems storage environments.
THE BOX HILL SOLUTION
Box Hill develops and markets a comprehensive range of storage systems
designed to meet the requirements of the high-end Open Systems market. The
Company's family of products and services is intended to provide users with the
following benefits:
High performance, high availability and fault tolerance. Recognizing the
increased demand for faster response times, greater capacities, higher
availability of data and minimum system downtime, the Company has focused on
developing high-end, high-performance storage products using SCSI, Ultra SCSI
and Fibre Channel interfaces. The Company was among the first to develop and
successfully commercialize a hot swappable SCSI Disk Array and a RAID storage
system for the UNIX environment. In 1997, the Company was one of the first to
introduce a Fibre Channel storage system.
This past year, the Company was among the first storage vendors to provide
SANs to its customers. SAN technology is in its infancy and has not yet
generated significant revenue for Box Hill. Further, the Company cannot predict
the timing and magnitude of customer demand for SANs. However, Box Hill believes
it is in a strong position to deliver SANs to customers; Box Hill has been
developing Fibre Channel technology for over four years and has a history of
providing integrated storage solutions. In the United States, Box Hill sells
directly
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to customers with sophisticated storage needs and the sales force and engineers
work closely with those customers to design innovative solutions.
High-performance backup. To satisfy market demand for reliable,
high-quality backup products and systems, the Company offers a broad variety of
backup products and services, including tape library systems, backup software,
training and documentation. The Company also expertly designs and implements the
effective integration of backup solutions into a customer's system, whether the
system be a departmental server or enterprise-wide network.
All-encompassing solutions. The Company delivers all-encompassing
solutions, including design consulting, installation, integration, training, and
comprehensive, 24-hour, post-sales service and technical support, as well as
software-based management tools. The Company employs a full staff of direct
sales personnel and applications engineers to assist customers in making
appropriate and effective storage system purchases and in addressing, analyzing
and solving complex, pre-deployment storage problems. This value-added
capability fosters customer loyalty and allows the Company to identify emerging
customer requirements for future data storage products.
Multi-platform support. As an independent provider of storage products,
Box Hill is well positioned to provide storage systems specifically designed to
be compatible with a variety of UNIX and Windows NT platforms. This
cross-platform capability allows end users to standardize on a single storage
system that can readily be reconfigured and re-deployed at minimal cost as
operating systems or other Open System components change.
Scalability. The Company's products are designed using a flexible, modular
architecture allowing the Company to size and configure storage systems to the
application-specific requirements of individual customers. In addition, this
architecture allows the Company to resize and reconfigure these systems to adapt
to the changing needs of customers, while allowing them to retain capital value
in their underlying systems.
PRODUCTS AND SYSTEMS
Box Hill's family of products is a flexible, highly scalable set of
hardware and software storage solutions for Open Systems applications. The
Company sells storage in two fundamental ways: as solution packages or, for
those customers who prefer to buy particular products, as modular building
blocks. Either way, Box Hill's storage solutions range from SCSI Disk Array
configurations to multi-terabyte Ultra SCSI RAID storage systems to Fibre
Channel-based Storage Area Networks. Box Hill's backup solutions incorporate
"best of breed" tape library products and backup management software, the vast
majority of which are manufactured by other parties.
DISK STORAGE PRODUCTS. The Company's principal disk storage products
include the Mod Box 5000(Trademark), the Jewel Box 8000(Trademark), the RAID
Box 5300 Turbo(Trademark), and the Fibre Box(Registered).
Mod Box 5000(Trademark). The Mod Box 5000(Trademark) is a modular,
scalable, hot-swappable, SCSI and Ultra SCSI capable Disk Array system that can
be configured with a wide range of storage devices, including the RAID Box 5300
Turbo(Trademark). The Mod Box 5000(Trademark) architecture supports both 3 1/2"
and 5 1/4" device form factors, enabling Box Hill to support the highest
capacity drives, and is compatible with both UNIX and Windows NT platforms.
Jewel Box 8000(Trademark). The Jewel Box 8000(Trademark) is another
modular, scalable, hot-swappable storage system that can be configured with the
RAID Box 5300 Turbo(Trademark) for added reliability and fault-tolerance. Up to
eight 4 GB--18 GB, 10,000 rpm, SCSI- and Ultra SCSI-capable disk drives can be
accommodated within the system.
RAID Box 5300 Turbo(Trademark). Box Hill integrates hardware RAID
controllers with the Mod Box 5000(Trademark) or the Jewel Box 8000(Trademark)
Disk Array to create the RAID Box 5300 Turbo(Trademark) product line. The
Company also supplies remote monitoring and configuration software as a key part
of the RAID Box 5300 Turbo(Trademark) system. This high-end, high-speed,
hot-swappable, SCSI and Ultra SCSI capable RAID storage system supports
redundant fail-over controllers and capacities up to 2.7 TB. The Company
believes that its RAID Box 5300 Turbo(Trademark) is one of the fastest Ultra
SCSI RAID storage systems available for both UNIX and Windows NT platforms.
Fibre Box(Registered). The Fibre Box(Registered) is based on Fibre Channel
technology and enables data transfer rates of up to 200 MB per second,
transmission distances of up to 10 kilometers, connectivity of up to 126
host/device connections and capacities up to 2.27 TB. In addition, the Fibre
Box(Registered) contains up to eight 18 GB Fibre Channel
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disk drives in an intelligent enclosure and features hot-swappability,
redundancy of key components, and automatic environmental monitoring to enable
failure prediction. Included with the Fibre Box(Registered) is the Company's
Fibre Box Array Explorer(Trademark) ("FBAE") software program, which supports
the management and configuration of the Fibre Box(Registered) on Windows NT and
provides users with the benefits of system monitoring and configuration, event
reporting and remote disk maintenance and administration. FBAE allows the Fibre
Box(Registered) to take full advantage of SANs. Versions of FBAE released during
1998 have included features such as SAN Spanning(Trademark), Global Hot Spares,
auto rebuild and background initialization.
BACKUP PRODUCTS. Box Hill's backup solutions consist of a variety of "best
of breed" tape libraries and enterprise-wide backup software from industry
leaders (including Storage Technology Company (StorageTek), Veritas Software
Corporation and Legato Systems Inc.), proprietary Company software and
comprehensive integration and customization services that produce turnkey
solutions. The Company believes it has unique abilities to custom design
system-wide and enterprise-wide backup systems and effectively integrate "best
of breed" hardware and software backup products. The principal tape backup
products offered by the Company include the Magna Box, an enterprise-wide
automated DLT library with capacities ranging from 800 GB to 41 TB, and the Echo
Box, which, together with the Company's proprietary Tape Mirroring Software,
allows for the simultaneous real-time creation of two sets of backup tapes, one
for fast, local retrieval of data and the other for remote, off-site storage.
CUSTOMERS
Box Hill markets its products principally to high-end users in the Open
Systems market. The Company has installed storage systems principally in
data-intensive industries in which customers require high-performance,
high-availability, fault-tolerant storage solutions, such as financial services,
telecommunications, health care, government/defense and academia. The Company
intends to expand its focus to include other data-intensive vertical markets,
such as video, multimedia and imaging. The Company enjoys strong relationships
with its customers, which are reflected in high levels of repeat business over
many years.
The Company has historically targeted industries requiring high-end storage
products, and a material portion of the Company's net revenues to date has been
derived from sales to customers in the financial services industry and the
telecommunications industry. In 1998, direct sales to customers in the financial
services and telecommunications industries were approximately 47% and 15%,
respectively, of Box Hill's net revenues, and in 1997 were approximately 40% and
14%, respectively, of Box Hill's net revenues.
Historically, a material percentage of the Company's net revenues in each
year have been derived from a limited number of customers. For the year ended
December 31, 1998, the Company's top five customers, including distributors,
accounted for approximately 36% of the Company's net revenues. For the year
ended December 31, 1997, the Company's top five customers, including
distributors, accounted for approximately 30% of the Company's net revenues. In
1997, no single customer accounted for 10% or more of the Company's net
revenues. In 1998, one customer, Salomon Smith Barney Inc., accounted for
approximately 18% of the Company's net revenue. Salomon Smith Barney Inc.
performs investment banking services for the Company from time to time and was
the lead underwriter of the Company's initial public offering. The Company
generally does not enter into long-term contracts with its customers, and
customers generally have certain rights to extend or delay the shipment of their
orders or cancel orders without penalty.
A very significant amount of the Company's revenues to date have been
concentrated in the UNIX marketplace, and within the UNIX marketplace, a
significant portion of the Company's revenues are associated with versions of
UNIX manufactured by Sun Microsystems, Inc.
SALES AND MARKETING
In the United States, the Company's marketing strategy emphasizes direct
sales to high-end users of its storage and backup products. Prior to 1995, the
Company conducted its sales exclusively from its facility in New York City,
which office still generates the vast majority of the Company's revenue. In
recent years, the Company has engaged in an expansion program to penetrate new
markets outside the northeastern region of the United States. In 1996, the
Company established a sales location in the greater Washington, D.C.
metropolitan area and, in 1997, commenced hiring personnel in other parts of
North America. In 1998, the Company hired a new
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Executive Vice President of Sales, opened a sales office in Newport Beach,
California and added a number of sales people in the Western and Southern
Regions of the Country. The Company also hired a Director of Western Region
sales to oversee the efforts of the Western Region sales team. The Company plans
to continue its expansion efforts in the future. The Company's team of
application engineers, generally highly qualified storage experts, complements
the sales force by providing pre-sales and pre-deployment consulting,
installation services and support.
The Company's international marketing strategy has been to use distributors
located outside of the United States. The Company's foreign activities have
principally been conducted through distributors in the United Kingdom, Japan and
Hong Kong. Since 1996, the Company has embarked on a program of international
expansion. As of December 31, 1998, the Company had reseller agreements with
engaging distributors in Korea, Singapore, Italy, Ireland, Spain, Taiwan,
Thailand, Australia, Brazil, China, India and Venezuela. The Company provides
marketing and technical support services in connection with international sales.
Sales to international distributors located outside the United States
represented approximately 12%, 17%, and 18% of the Company's net revenues for
1998, 1997, and 1996, respectively.
ENGINEERING AND PRODUCT DEVELOPMENT
The Company's research, engineering and development efforts are focused on
developing innovative storage and Storage Area Network (SAN) solutions for the
high-end of the Open Systems market. The Company has expertise in UNIX and
Windows NT driver and system software design, data storage system design and
integration, high-speed interface design for SCSI, Ultra SCSI and Fibre Channel
and design, qualification and integration of disk drives, tape drives, robotics
and other storage components. For example, the Company was among the first to
develop and successfully commercialize a hot-swappable SCSI Disk Array and a
RAID storage system for the UNIX environment. More recently, the Company was one
of the first to introduce a Fibre Channel storage system that features
controllerless RAID and to provide turnkey SAN solutions to the Open Systems
market.
The Company generally designs its products to have a modular architecture
that can be readily modified to respond to technological developments and
paradigm shifts in the Open Systems computing environment. This flexibility
allows the Company to focus research and development resources on specific
product innovations and advancements. The modular architecture of the products
meets customer needs with solutions tailored to their applications and products
that can be adapted to changes in technology and in their computing
environments.
The Company is currently focusing development efforts on SANs, which are
based on the Fibre Channel protocol. Projects include improvements to the
features, functions and performance of the Fibre Box(Registered) and the Fibre
Box Array Explorer(Trademark), which form the basis of Box Hill's SANs. The
Company is also focusing on new SAN applications.
The Company's engineering design teams work with marketing managers,
application, technical and production engineers and customers to develop
products and product enhancements. The Company employs a staff of applications
engineers to assist customers in making appropriate and effective storage system
purchases and in addressing, analyzing and solving complex pre-deployment
storage problems. The Company's technical support engineering team and
production engineering team also contribute to the quality, manufacturability
and usability of products from design to deployment. This value-added capability
fosters customer loyalty and allows the Company to identify emerging customer
requirements for future data storage products.
Engineering and product development expense (which does not include
compensation for application and technical support engineers--such compensation
is recorded as sales and marketing expenses) for fiscal years 1998, 1997 and
1996 was $2.6 million, $2.3 million and $2.1 million, respectively. As of
December 31, 1998, the Company had 24 full-time employees engaged in research
and development activities and had 15 full-time application and technical
support engineers.
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CUSTOMER SERVICE AND SUPPORT
Box Hill recognizes that the provision of comprehensive, proactive and
responsive support is an essential element in establishing new customer accounts
and securing repeat business from existing customers. Box Hill is committed to
providing the highest levels of customer service and support aimed at
simplifying installation, reducing field failures, minimizing system downtime
and streamlining administration.
In certain geographical regions, and for an annual or quarterly fee, the
Company maintains a staff of on-call technical personnel who are available to
visit customer sites within a few hours. In other geographical regions, the
Company indirectly provides the same level of support by using third-party
service companies. In all cases, Box Hill technical support engineers are
available by phone on a seven day, 24 hour basis.
The Company provides standard warranties with all products sold which are
set forth in various documents and agreements. These documents and agreements
are delivered to customers with each product. As a general policy, the Company
ships replacement hardware components to customers in advance of receiving
returns of defective components under a standard warranty, which runs from one
to five years. The Company occasionally issues credit in lieu of replacing a
piece of equipment. A customer may also contract for an extended warranty or on
site maintenance support from the Company on all products.
MANUFACTURING
Box Hill's manufacturing operations consist of assembling and integrating
components and subassemblies into the Company's products. Certain of those
subassemblies are manufactured by independent contractors. The units are
assembled to order. Prior to shipping, the units are subjected to a
systems-level test and to firmware revision controls to ensure performance to
specification in the anticipated end-user computing environment. Test results
are identified by individual product serial numbers and are logged to aid in
technical support. The Company strives to develop close relationships with its
suppliers, exchanging critical information and implementing joint corrective
action programs to maximize the quality of its components, reduce costs and
reduce inventory investments.
The Company relies on other companies to supply certain key components of
its products and certain products which it resells that are available only from
limited sources in the quantities and quality demanded by the Company. The
Company purchases substantially all of its disk drives and all of its Fibre
Channel drives from Seagate Technology Inc., all of its DLT tape drives from
Quantum Corporation and all of its hardware SCSI RAID controllers from CMD
Technology. Approximately 24.9%, 32.7%, and 52.7% of the Company's total raw
material purchases were from Seagate and approximately 2.9%, 10.5%, and 16.5% of
the Company's total raw material purchases were from Quantum in the years ended
December 31, 1998, 1997 and 1996, respectively. In addition, the Company
purchases substantially all of its raw materials pursuant to purchase orders,
rather than pursuant to long term purchase agreements. The Company attempts to
maintain minimum inventory levels. Seagate has been the only manufacturer and
distributor of Fibre Channel drives and Quantum has been the only supplier of
DLT tape drives. If the Company faced a shortage of Fibre Channel drives or DLT
tape drives, manufacture and shipment of certain of the Company's products could
be delayed indefinitely, as long as there continue to be no alternative sources
of supply. Even if alternative sources of supply became available, the
incorporation of such components from alternative suppliers and the manufacture
and shipment of such products could be delayed while modifications to such
products and accompanying software were made to accommodate the introduction of
alternative suppliers' components. The Company has experienced a shortage of DLT
tape drives in the past, and there can be no assurance that the Company will not
experience shortages of these or other components in the future. Although
hardware SCSI RAID controllers are available from other sources, the Company
estimates that replacing CMD's hardware RAID controllers with those of another
supplier would involve several months of hardware and software modification.
The Company resells the products of Storage Technology Corporation
(StorageTek), including StorageTek tape libraries, as well as the products of
other companies. During 1998, approximately 34% of the Company's total purchases
were for StorageTek products, which products were then resold to customers. If
Box Hill were to face a shortage of StorageTek products in the future, Box Hill
could, after some modification, integrate the products of other manufacturers
into its storage solutions. However, due to the market acceptance of StorageTek,
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the Company believes that a substantial number of customers would not be
satisfied with the products of an alternate manufacturer.
COMPETITION
The market for Open Systems storage is growing and it is intensely
competitive. The Company competes primarily with traditional suppliers of
computer systems such as Compaq Computer Corporation, Hewlett-Packard, Sun
Microsystems, IBM, Hitachi, Data General Corporation, Digital Equipment
Corporation, and Dell Computer Corp., which market storage systems as well as
other computer products and which seem to have become more focused on storage
during 1998. The Company also competes against independent storage system
suppliers to the high-end Open Systems market, including, but not limited to,
EMC Corporation, Network Appliance, Inc., Ciprico Inc., MTI Technologies, Inc.,
Artecon Inc., Andataco, Inc., Procom Technology Inc. and Storage Computer Corp.
In providing tape backup, the Company competes with suppliers of tape-based
storage systems such as Datalink Corporation, MTI Technologies, Inc., Dallas
Digital, Cranel, Inc. and numerous resellers.
Competitive pricing pressures exist in the data storage market, and have
had and may in the future have an adverse effect on the Company's revenues and
earnings. There also has been and may continue to be a willingness on the part
of certain large competitors to reduce prices in order to preserve or gain
market share. The Company believes that pricing pressures are likely to continue
as competitors develop more competitive product offerings, and saw some of this
occur in the fourth quarter of 1998.
Many of the Company's current and potential competitors are significantly
larger than Box Hill and have significantly greater financial, technical,
marketing, purchasing and other resources than the Company, and as a result, may
be able to respond more quickly to new or emerging technologies and changes in
customer requirements, or devote greater resources to the development, promotion
and sale of products than the Company, or to deliver competitive products at a
lower end-user price. The Company also expects that competition will increase as
a result of industry consolidations. 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 operating margins and loss of market share, any of which
could have a material adverse effect on the Company's business, operating
results or financial condition.
PROPRIETARY TECHNOLOGY AND INTELLECTUAL PROPERTY
Box Hill's success depends significantly upon its proprietary technology.
The Company has no patent protection for its products and has attempted to
protect its intellectual property rights through copyrights, trade secrets and
other measures. The Company seeks to protect its software, documentation and
other written materials under trade secret and copyright laws, which afford only
limited protection. The Company has registered its Box Hill(Registered) and
Fibre Box(Registered) trademarks and has applied for registered trademark
protection for the marks X/ORRAID(Trademark) and SANMAN(Trademark). Box Hill is
claiming common law protection for and may seek to register its RAID Box 5300
Turbo(Trademark), Mod Box 5000(Trademark), Fibre Box Array Explorer(Trademark),
RAID Turbo HS(Trademark), ONS(Trademark), San Spanning(Trademark), Redundant
Path(Trademark) software, Jewel Box 8000(Trademark), Shadow Box(Trademark), Echo
Box(Trademark), Borg Box(Trademark), Bread Box(Trademark), Magna Box(Trademark)
and Light Box(Trademark) trademarks and other trademarks and logos as it deems
appropriate. The Company generally enters into confidentiality agreements with
its employees and with key vendors and suppliers.
The Company licenses certain Fibre Channel driver software under
royalty-free licenses for use in connection with host bus adapters purchased by
the Company from the licensors. The licenses are irrevocable, non-transferable
and non-exclusive, and continue as long as the Company continues to use the
licensors' drivers or unless the Company terminates it or either party
materially breaches its obligations.
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EMPLOYEES
As of December 31, 1998, Box Hill had a total of 162 employees,
(substantially all of whom are full-time), of whom 24 were engaged in
engineering, research and development; 24 in applications and technical support
engineering and customer support; 49 in marketing, sales; 37 in manufacturing;
25 in general management and administration; and three shareholder officers.
The Company has experienced no work stoppages and believes that its
employee relations are good. The Company's future performance depends in
significant part upon the continued service of its key technical and senior
management personnel. The Company provides incentives such as salary and
benefits, and will make stock option grants to attract and retain qualified
employees. Most members of the sales force are compensated in a manner that
includes a commission-based component.
GLOSSARY OF TERMS USED IN PART I
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ANSI....................... American National Standards Institute.
Clustering software........ Clustering software allows a client software application to interact with a cluster
of host servers, as if the cluster were a single host. Clustering software is
designed to increase both availability (by providing alternative processing capacity
in the event of a host failure) and scalability (by sharing resources among a number
hosts in the cluster).
CPU........................ Central Processing Unit. Refers to a micro-processing chip in a host computer.
Disk Array................. A storage system comprising a variable number of disk drives externally attached by
means of an interface to a computer system.
DLT........................ Digital Linear Tape. A proprietary tape drive product line designed and built by
Quantum.
Failover................... A high-availability and data protection feature that automatically transfers
functions from a failed device to a redundant device.
fault tolerance............ The capability of a system to withstand a degree of failure and continue to perform
its functions.
Fibre Channel.............. The name given to a new interface standard developed by ANSI.
GB......................... Gigabyte. 1,024 megabytes.
High availability.......... The capability of a system to perform its functions with minimal downtime.
hot-swappable.............. The ability of components of a storage system, such as disks, power supplies and
fans, to be exchanged while the system remains powered on.
MB......................... Megabyte. 1,048,576 bytes, a unit of measurement for data storage.
Open Systems............... Computing environments incorporating computers that act as servers interconnected
over a network to client workstations and a variety of other system components and
peripherals based on a series of published or open interface specifications.
RAID....................... Redundant Array of Inexpensive/Independent Disks. A Disk Array storage system with
fault tolerant capabilities.
SAN........................ A network, that sits between computers and their storage devices that is, generally,
based on the Fibre Channel protocol. A SAN provides considerable networking
capability, allowing multiple hosts to have high-speed access to multiple storage
and backup devices.
SCSI....................... Small Computer Systems Interface. The name given to a commonly used interface
standard developed by ANSI.
TB......................... Terabyte. 1,024 gigabytes.
Ultra SCSI................. An advanced form of SCSI with increased performance capabilities.
UNIX....................... A popular multi-user computer operating system commonly used in Open Systems.
Windows NT................. A Microsoft computer operating system commonly used in Open Systems.
</TABLE>
9
<PAGE>
EXECUTIVE OFFICERS OF THE REGISTRANT (AT DECEMBER 31, 1998):
<TABLE>
<CAPTION>
OFFICER
NAME AGE POSITION SINCE
- --------------------------- --- ------------------------------------ -------------
<S> <C> <C> <C>
Philip Black 43 Chief Executive Officer and Director May 1995
Benjamin Monderer 40 Chairman of the Board, President and April 1988
Chief Technical Officer
Carol Turchin Executive Vice President and
37 Director April 1988
Mark A. Mays Vice President, Secretary and
35 Director April 1988
Adam T. Temple 41 Vice President of Operations January 1996
Kenneth Pitz 46 Vice President of Materials January 1996
Management
R. Robert Rebmann, Jr. Chief Financial Officer and
33 Treasurer January 1997
Elizabeth Strong 47 Executive Vice President of Sales April 1998
</TABLE>
All officers are elected by the Board of Directors and serve at the
pleasure of the Board of Directors as provided in the By-laws.
Philip Black has been Chief Executive Officer and a Director of the Company
since May 1995. From 1976 to 1991 Mr. Black held a number of positions,
including Vice President, President, Chief Executive Officer and Vice Chairman
of the Board at Tekelec, Inc., a publicly traded company, of which he was the
founder, engaged in the design, manufacturing and marketing of diagnostics
systems and network switching solutions. From March 1990 until August 1991
Mr. Black served as Managing Director of Echelon Europe, of which he was a co-
founder. In September 1991 Mr. Black became the Chief Executive Officer and
Treasurer of Avalon Control Technologies, a company specializing in products and
services related to Echelon's LONWorks technology, and served in those
capacities until June 1994. In April 1994 Mr. Black became President and Chief
Executive Officer of Chevry, a backup software company, and served in those
capacities until he joined the Company.
Benjamin Monderer, Eng.Sc.D., a co-founder of the Company, has been
President and a Director of the Company since its incorporation in 1988 and
became Chairman of the Board in July 1997. He is also Chief Technical Officer
and has served as Manager of Operations of the Company. Dr. Monderer had been a
member of the technical staff at Hewlett-Packard in 1980 and 1981 and was a
Research Scientist at Columbia University from 1986 to 1989. Dr. Monderer holds
a Bachelor of Science in Electrical Engineering degree from Princeton University
and a Master of Science degree in Electrical Engineering and a Doctor of
Engineering Science from Columbia University. Dr. Monderer is married to Carol
Turchin.
Carol Turchin, a co-founder of the Company, has been an executive officer
and a Director of the Company since its incorporation in 1988 and, in July 1997,
became Executive Vice President of the Company. She is Vice President of
Strategic Planning, and in the past has served as the Company's Vice President
of Sales and Vice President of Marketing. Ms. Turchin holds a Bachelor of Arts
degree from Vassar College. Ms. Turchin is married to Benjamin Monderer.
Mark A. Mays, a co-founder of the Company, has been Vice President,
Technical Consultant and a Director of the Company since its incorporation in
1988 and was appointed Secretary of the Company in July 1997. From 1985 to 1988,
Mr. Mays served as Associate Research Scientist at Columbia University.
Mr. Mays holds a Bachelor of Science degree and a Master of Science degree in
Electrical Engineering from Columbia University.
Adam T. Temple is Vice President of Operations. Mr. Temple joined the
Company in 1991, became Head of Operations in 1992 and Vice President of
Operations in 1996. Prior to joining the Company, Mr. Temple served as Advisory
Engineer for IBM at the T.J. Watson Research Center from 1990 to 1991, as a
member of the Research Staff at Columbia University's Center for
Telecommunications Research from 1985 to 1990, and as an engineer at Raytheon
Company's Submarine Signal Division from 1979 to 1985. Mr. Temple holds a
Bachelor of Science degree in Engineering and Applied Science from Yale
University and a Master of Science in Electrical Engineering from Columbia
University.
Kenneth Pitz has served as Vice President of Materials Management of the
Company since 1996. Mr. Pitz has served in various management capacities since
he joined the Company in 1992. Prior to joining the Company, Mr. Pitz served in
various capacities of increasing responsibility at Lex Electronics (formerly
Schweber
10
<PAGE>
Electronics, which was purchased in 1991 by Arrow Electronics, Inc.) from 1976
to 1992, including Product Line Manager, Operations Manager of a sales office,
Director of a division and, ultimately, Director of Customer Services for the
company.
R. Robert Rebmann, Jr. has been Chief Financial Officer of the Company
since joining the Company in January 1997 and became Treasurer of the Company in
July 1997. Prior to joining the Company, Mr. Rebmann served as Audit Manager for
Perelson Weiner (formerly Weiner Associates), a mid-sized regional public
accounting firm. Mr. Rebmann held various positions of increasing responsibility
at Perelson Weiner from 1986 until December 1996. Mr. Rebmann holds a Bachelor
of Science degree in Accounting from the State University of New York at
Binghamton and is a Certified Public Accountant.
Elizabeth Strong has been the Executive Vice President of Sales since
joining the Company in April 1998. From 1979 to 1998, Ms. Strong held a
succession of global sales and marketing management positions at Digital
Equipment Corporation, the most recent being the Vice President and General
Manager of the Citicorp Account. Ms. Strong holds a Bachelor of Science degree
in Mathematics from the University of Massachusetts, and has completed course
work for a Master of Science degree in Computer Science at Worcester Polytechnic
Institute.
ITEM 2. PROPERTIES:
Box Hill's executive offices, principal sales office, marketing operations,
administrative staff, manufacturing operations and research and development
operations are all located in New York City at a 52,000 square-foot leased
facility. In 1998, approximately 8,500 square feet of space was added to the New
York City facility. This New York facility is occupied under a long-term lease,
as amended, expiring in 2007. In addition, the Company leases an office in
Vienna, Virginia, under a lease that expires in May 1999, to facilitate sales
efforts in the greater Washington, D.C. metropolitan area. In 1998, the Company
began leasing an office in Newport Beach, California, and an office in Hazlet,
New Jersey under leases that expire in May 1999. The aggregate rent for the year
ended December 31, 1998 for the four facilities was approximately $685,000. The
Company believes that its existing facilities are adequate for its current
needs.
ITEM 3. LEGAL PROCEEDINGS:
Four putative shareholder class action lawsuits were filed, and have since
been consolidated into a single action, against Box Hill Systems Corp., Philip
Black, Carol Turchin, Benjamin Monderer, Mark Mays, and the underwriters of the
Company's September 16, 1997 initial public offering (the "Offering") in the
United States District Court for the Southern District of New York. The putative
class actions were filed on behalf of purchasers of the stock of the Company
during the period September 16, 1997 and April 14, 1998. Plaintiffs allege that,
in violation of federal securities laws, defendants made misrepresentations of
material fact and omitted material facts required to be disclosed in the
Company's registration statement and prospectus issued in connection with the
Offering and in statements allegedly made by the Company and certain of its
officers and directors subsequent to the Offering.
The Company expects to file a motion to dismiss the consolidated complaint,
which complaint was filed on March 19, 1999. The Company believes that it has
meritorious defenses to plaintiffs' claims and intends to vigorously defend
against those claims. However, the Company expects to incur significant legal
expense in 1999 defending this litigation. Such defense costs, and other amounts
incurred in connection with this litigation, will be expensed as incurred and
will reduce the Company's 1999 results.
In addition to the complaints discussed above, the Company is subject to
various other legal proceedings and claims against the Company, asserted or
unasserted, which arise in the ordinary course of business. While the outcome of
the claims against the Company cannot be predicted with certainly, management
believes that such litigation and claims will not have a material adverse effect
on the Company's financial position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS:
None.
11
<PAGE>
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS:
Box Hill common stock has been listed on the New York Stock Exchange since
September 16, 1997. During the Third Quarter ending September 30, 1997, the high
and low selling prices of Box Hill Common Stock on the New York Stock Exchange
were $21 1/8 and $16, respectively. During the Fourth Quarter ending December
31, 1997, the high and low selling prices were $20 and $9, respectively.
During the First Quarter, ending March 31, 1998, the high selling price of
Box Hill Common Stock on the New York Stock Exchange was $13 3/4, and the low
was 9 5/8. During the Second Quarter, ending June 30, 1998, the high selling
price was 13 11/16 and the low was 6 3/4. During the Third Quarter, ending
September 30, 1998, the high selling price was 9 1/16 and the low was 6 1/4.
During the Fourth Quarter, ending December 31, 1998, the high selling price was
8 1/4 and the low was 4 15/16. As of March 8, 1999, there were 99 common
stockholders of record.
Dividends have not been paid on the Company's common stock and the Company
does not intend to pay cash dividends in the foreseeable future.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA:
The selected consolidated financial data set forth below should be read in
conjunction with, "Management's Discussion and Analysis of Financial Condition
and Results of Operations", the Company's audited financial statements, the
notes thereto, and the other financial and statistical information included
herein. The pro forma financial data for the year ended December 31, 1997 gives
effect to (i) the Company's conversion to a C Corporation and (ii) new
employment agreements with the Company's shareholder officers. The pro forma
adjustments are based upon available information and certain assumptions that
management of the Company believes are reasonable.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------------------
1998 1997(1) 1996 1995 1994
------- ------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Net revenues............................................. $72,476 $70,344 $50,027 $40,225 $55,232
Cost of goods sold....................................... 47,403 45,528 33,028 24,067 33,568
------- ------- ------- ------- -------
Gross profit............................................. 25,073 24,816 16,999 16,158 21,664
------- ------- ------- ------- -------
Operating expenses:
Shareholder officers' compensation.................... 1,275 7,538 6,347 9,067 15,174
Engineering and product development................... 2,617 2,324 2,071 1,634 1,420
Sales and marketing................................... 8,731 6,699 5,325 3,150 2,405
General and administrative............................ 4,634 3,465 2,348 1,931 1,351
------- ------- ------- ------- -------
Total operating expenses......................... 17,257 20,026 16,091 15,782 20,350
------- ------- ------- ------- -------
Operating income...................................... 7,816 4,790 908 376 1,314
Interest expense (income), net........................ (1,924) (681) (144) 33 62
------- ------- ------- ------- -------
Income before income taxes............................ 9,740 5,471 1,052 343 1,252
Income taxes.......................................... 3,806 413 226 311 426
------- ------- ------- ------- -------
Net income................................................. $ 5,934 $ 5,058 $ 826 $ 32 $ 826
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Basic net income per share................................. $ .42 $ .45 $ .08 $ -- $ .08
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Diluted net income per share............................... $ .39 $ .42 $ .08 $ -- $ .08
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Pro forma income before income taxes (2)................... $11,734
Pro forma income taxes (3)................................. 4,518
-------
Pro forma net income....................................... $ 7,216
-------
-------
Pro forma basic net income per share (4)................... $ .62
-------
-------
Pro forma diluted net income per share (4)................. $ .57
-------
-------
</TABLE>
12
<PAGE>
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
---------------------------------------------------
1998 1997 1996 1995 1994
------- ------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents and
short-term investments................................ $57,714 $50,202 $ 994 $ 3,478 $ 2,037
Working capital............................................ 63,915 57,440 8,069 7,269 10,645
Total assets............................................... 83,869 73,817 17,416 13,945 15,927
Shareholders' equity....................................... 65,150 58,548 8,769 7,943 7,911
</TABLE>
- ------------------
(1) In connection with the Company's September 1997 initial public offering, its
S Corporation status was terminated. The provision for income taxes for the
year ended December 31, 1997, consists of income taxes on the C
Corporation's pro rata portion of the Company's 1997 taxable income, New
York City taxes, state franchise taxes and a one-time tax benefit of
$855,000 related to the recognition of the net deferred tax asset recorded
by the Company upon terminating its S Corporation status. For all prior
years, the provision for income taxes consists of New York City taxes and
state franchise taxes. See Note 6 of Notes to the Company's Financial
Statements.
(2) Pro forma income before income taxes reflects a pro forma adjustment to
reduce shareholder officers' compensation expense to reflect employment
agreements with the Company's three shareholder officers executed in
connection with the initial public offering. See Notes 2 and 10 of Notes to
the Company's Financial Statements.
(3) Pro forma income taxes have been computed as if the Company were subject to
federal and state income taxes for all periods presented, based on the tax
laws in effect during those periods. See Note 6 of Notes to the Company's
Financial Statements.
(4) See Note 2 of Notes to the Company's Financial Statements.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS:
Overview
Box Hill designs, manufactures, markets and supports high performance data
storage systems for the Open Systems computing environment and operates in one
business segment. In the United States the Company employs a direct marketing
strategy aimed at data-intensive industries which, to date, include financial
services, telecommunications, health care, government/defense and academia. The
Company's international strategy is to use distributors located outside of the
United States. Since its inception, Box Hill has focused exclusively on
providing storage solutions for high-end customers, primarily in the UNIX
environment. The Company initially focused on the financial services industry in
response to that industry's need for high-availability, high-performance,
fault-tolerant storage systems and high levels of customer and technical
support. Box Hill leverages its position as a company focused exclusively on
storage solutions to bring new products to market faster than its competitors.
Box Hill has produced significant profits since inception and has financed its
growth primarily with cash generated from operations.
Box Hill's manufacturing operations consist primarily of the assembly and
integration of components and subassemblies into the Company's products, with
certain of those subassemblies manufactured by independent contractors.
Generally the Company extends to its customers the warranties provided to the
Company by its suppliers. To date, the Company's suppliers have covered the
majority of the Company's warranty costs. On a quarterly and annual basis the
Company's gross margins have been and will continue to be affected by a variety
of factors, including competition, product configuration, product mix, the
availability of new products and product enhancements, and the cost and
availability of components.
The Company completed an initial public offering of its common stock on
September 16, 1997. The offering consisted of the sale of 5,500,000 shares of
common stock at $15.00 per share, of which 3,300,000 were issued and sold by the
Company and 2,200,000 shares were sold by individuals who were the founders and
sole shareholders of the Company prior to the initial public offering.
Additionally, 825,000 shares of common stock were purchased from the Company at
$15.00 per share by the underwriters upon the exercise of an over-allotment
13
<PAGE>
option. The net proceeds to the Company, after deducting estimated underwriting
discounts and offering expenses, were approximately $56.6 million.
The Company was subject to taxation under Subchapter S of the Internal
Revenue Code and the New York State Tax Code from 1990 until the termination of
its S Corporation status concurrent with the Offering. Accordingly, prior to the
Offering, no provision was made for federal or state income taxes and the
Company's shareholders were taxed directly on their proportionate share of the
Company's taxable income. In connection with the offering, the Company
terminated its status as an S Corporation and is subject to Federal and state
taxes for the C Corporation's pro rata share of the Company's 1997 taxable
income.
In September 1997, the Company made $10.5 million of distributions to the S
Corporation shareholders, representing the estimated taxed but undistributed S
Corporation earnings as of June 30, 1997. In December 1997, the Company made
distributions of $1.2 million to its S Corporation shareholders, representing
the estimated taxed, but undistributed S Corporation earnings of the Company as
of December 31, 1997. At December 31, 1997, the Company has recorded a
distribution payable to its S Corporation shareholders of $227,000, representing
the estimated final distribution for taxed, but undistributed, S Corporation
earnings.
RESULTS OF OPERATIONS
The following table sets forth certain items from the Company's income
statements as a percentage of net revenues for the periods indicated:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
1998 1997 1996
----- ----- -----
<S> <C> <C> <C>
Net revenues................................................................ 100.0% 100.0% 100.0%
Cost of goods sold.......................................................... 65.4 64.7 66.0
----- ----- -----
Gross profit................................................................ 34.6 35.3 34.0
----- ----- -----
Operating expenses:
Shareholder officers' compensation........................................ 1.8 10.7 12.7
Engineering and product development....................................... 3.6 3.3 4.1
Sales and marketing....................................................... 12.0 9.5 10.6
General and administrative................................................ 6.4 5.0 4.8
----- ----- -----
Total operating expenses............................................... 23.8 28.5 32.2
----- ----- -----
Operating income............................................................ 10.8% 6.8% 1.8%
----- ----- -----
----- ----- -----
</TABLE>
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Net revenues--Net revenues increased 3.1% to $72.5 million for the year
ended December 31, 1998, compared to $70.3 million for the year ended December
31, 1997. The revenue growth resulted from an increase in volume, which was
partially offset by price reductions. Increases in sales of back-up products,
Fibre Channel and RAID were offset by a decrease in net revenues from sales of
legacy (SCSI-JBOD) storage products. Net revenues from sales of back-up products
increased $3.5 million, or 21.3%, to $19.9 million for the year ended December
31, 1998, compared to $16.4 million for the year ended December 31, 1997. The
increase in net revenues from sales of back-up products is the result of the
additional focus on backing-up mission critical data by the Company's
traditional customer base, and the successful sales efforts in obtaining new
customers requiring the Company's knowledge and experience in back-up
integration. Net revenues from sales of Fibre Channel products increased $2.2
million, or 244%, to $3.1 million for the year ended December 31, 1998, compared
to $.9 million for the year ended December 31, 1997. The increase is due to
growing market acceptance of the new technology. Net revenues from sales of RAID
products increased $1.6 million, or 9.7%, to $18.1 million for the year ended
December 31, 1998, compared to $16.5 million for the year ended December 31,
1997. The increase is the result of the successful expansion of the Company's
direct sales force and the growth of the storage market. Net revenues from sales
of legacy storage products and services decreased $5.1 million, or 14.0% to
$31.4 million for the year ended December 31, 1998 compared to $36.5 million for
the year ended December 31, 1997 primarily as a result of price reductions for
SCSI-JBOD disk storage systems.
14
<PAGE>
Gross profit--Gross profit increased 1.2% to $25.1 million from
$24.8 million for the comparable period of 1997. As a percentage of net
revenues, gross profit decreased slightly from 35.3% to 34.6%, principally as a
result of a different product mix.
Shareholder officers' compensation--Shareholder officers' compensation
consists of salaries and bonuses paid to the Company's three shareholder
officers. Shareholders officers' compensation decreased 82.7% to $1.3 million
for the year ended December 31, 1998, compared to $7.5 million for the year
ended December 31, 1997. The decrease in shareholder officers' compensation is
attributable to new employment agreements entered into with the shareholder
officers in connection with the Company's initial public offering. See Notes 2
and 10 of Notes to the Company's Financial Statements.
Engineering and product development--Engineering and product development
expenses consist primarily of employee compensation, engineering equipment and
supply expenses and fees paid for third-party design services. To date, no
engineering and development expenses have been capitalized since the period
between achieving technological feasibility and completion of such software is
relatively short and software development costs qualifying for capitalization
have been insignificant. Engineering and product development increased 13.0% to
$2.6 million for the year ended December 31, 1998 from $2.3 million for the
comparable period of 1997. As a percentage of net revenues, engineering and
product development increased to 3.6% in 1998 from 3.3% in 1997. The increase is
due to an increase in the number of employees engaged in research and
development activities.
Sales and marketing--Sales and marketing expenses consist primarily of
salaries and commissions, advertising and promotional costs and travel expenses.
Sales and marketing expenses increased 29.9% to $8.7 million for the year ended
December 31, 1998 from $6.7 million for the year ended December 31, 1997. As a
percentage of net revenues, sales and marketing expenses increased to 12.0% in
1998 from 9.5% in 1997. The increase was primarily due to an increase in the
direct sales force and field service staff and increased commissions based on
the increase in sales.
General and administrative--General and administrative expenses consist
primarily of compensation to employees performing the Company's administrative
functions and expenditures for the Company's administrative facilities. General
and administrative expenses increased 31.4% to $4.6 million for the year ended
December 31, 1998 from $3.5 million for the year ended December 31, 1997. As a
percentage of net revenues, general and administrative expenses increased to
6.4% in 1998 from 5.0% in 1997. The increase is primarily due to the costs
associated with being a public company, increased receivable allowances and
additional rent expense resulting from an expanded facility.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
Net revenues--Net revenues increased 40.6% to $70.3 million for the year
ended December 31, 1997, compared to $50.0 million for the year ended December
31, 1996. The increase resulted from an increase in volume, which was partially
offset by price reductions. Net revenues from sales of backup products increased
$7.7 million, or 88.5%, to $16.4 million for the year ended December 31, 1997,
compared to $8.7 million for the year ended December 31, 1996. Net revenues from
sales of RAID products increased $5.6 million, or 51.4%, to $16.5 million for
the year ended December 31, 1997, compared to $10.9 million for the year ended
December 31, 1996. Net revenues from the Company's other products increased
23.0% to $37.4 million for the year ended December 31, 1997, due to increased
demand for the Company's products.
Gross profit--Gross profit increased 45.9% to $24.8 million from
$17.0 million for the comparable period of 1996. As a percentage of net
revenues, gross profit increased from 34.0% to 35.3%, principally as a result of
more favorable product mix.
Shareholder officers' compensation--Shareholders officers' compensation
increased 19.0% to $7.5 million for the year ended December 31, 1997 as compared
to $6.3 million for the year ended December 31, 1996. The increase in
shareholder officers' compensation is attributable to higher bonuses for the
period from January 1, 1997 to September 16, 1997. In connection with the
Offering, the Company entered into new employment agreements with the
shareholder officers. See Notes 2 and 10 of Notes to the Company's Financial
Statements.
15
<PAGE>
Engineering and product development--Engineering and product development
increased to $2.3 million for the year ended December 31, 1997 from
$2.1 million for the comparable period of 1996. As a percentage of net revenues,
engineering and product development decreased to 3.3% in 1997 from 4.1% in 1996.
Sales and marketing--Sales and marketing expenses increased 24.6% to $6.7
million for the year ended December 31, 1997 from $5.3 million for the year
ended December 31, 1996. The increase was primarily due to an increase in the
direct sales forces and field service staff and increased commissions based on
the increase in sales. As a percentage of net revenues, sales and marketing
expenses decreased to 9.5% in 1997 from 10.6% in 1996.
General and administrative--General and administrative expenses increased
52.2% to $3.5 million for the year ended December 31, 1997 from $2.3 million for
the year ended December 31, 1996. The increase was due to an increase in support
staff to support the Company's growth. As a percentage of net revenues, general
and administrative expenses increased slightly to 5.0% in 1997 from 4.8% in
1996.
LIQUIDITY AND CAPITAL RESOURCES
For the year ended December 31, 1998, net cash provided by operating
activities was $8.0 million compared to $4.9 million for the same period in
1997. The increase in 1998 was primarily due to an increase in net income and
accrued expenses and a decrease in accounts receivables. For the year ended
December 31, 1997, cash provided by operating activities was $4.9 million
compared to cash used in operating activities of $2.2 million for the same
period in 1996. The increase was primarily due to an increase in net income,
accounts payable and income taxes payable, partially offset by an increase in
accounts receivable.
Cash used in investing activities consists primarily of purchases of
property and equipment. Capital expenditures were $521,000, $623,000 and
$284,000 for the years ended December 31, 1998, 1997 and 1996, respectively.
Additionally, sales of short-term investments provided cash of $5.8 million in
1998, compared to cash used to purchase $9.3 million of short-term investments
in 1997.
Cash provided by financing activities of $3,000 for the year ended December
31, 1998 consists of proceeds from the exercise of stock options and from the
Company's Employee Stock Purchase Plan; offset by $227,000 of distributions to
the S-Corporation shareholders, representing the final distribution for taxed,
but previously undistributed, S-Corporation earnings. Cash provided by financing
activities of $44.9 million for the year ended December 31, 1997, consists
primarily of proceeds from the initial public offering of $56.6 million, offset
partially by $11.7 million of distributions to the S Corporation shareholders,
representing the estimated taxed, but undistributed S Corporation earnings of
the Company.
As of December 31, 1998, working capital was $63.9 million compared to
$57.4 million at December 31, 1997. Cash and cash equivalents and short-term
investments totaled $57.7 million at December 31, 1998 compared to
$50.2 million at December 31, 1997. In October 1997, the Company obtained a
$10 million revolving line of credit from a commercial bank. The Company did not
have any borrowings under this facility in 1998 or 1997. The line of credit
expires in May 1999. Borrowings under this facility will be collateralized by a
pledge of substantially all of the Company's assets and borrowings greater than
$5 million will also require to be secured by short-term investments.
Additionally, the Company is required to comply with certain financial
covenants, as defined.
The Company presently expects cash and cash equivalents and short-term
investments, together with cash generated from operations and available under
the revolver, to be sufficient to meet its operating and capital requirements
for at least the next twenty-four months. However, the Company may need
additional capital to pursue acquisitions or significant capital improvements,
neither of which is currently contemplated.
YEAR 2000
The "Year 2000 problem" describes the world-wide concern that certain
computer applications, which use two digits rather than four to represent dates,
will interpret the year 2000 as the year 1900 and malfunction on January 1, 2000
or thereafter. In this section, Box Hill summarizes the anticipated impact of
the Year 2000 on the Company.
16
<PAGE>
About this Statement
To the extent that this statement contradicts earlier statements made by
Box Hill, this statement supercedes those earlier statements. Further, this
statement is subject to change. Readers should also be aware that Box Hill's
evaluation of certain aspects of its Year 2000 readiness is based on statements
by other parties. Box Hill often cannot verify the veracity of those statements,
which may have been made in error.
Box Hill's Products
The Company believes the current revision of all products manufactured by
Box Hill will function normally after the Year 2000.
Most of Box Hill's products do not keep track of dates as part of their
normal operation and therefore are Year 2000 compliant by nature. Products
currently manufactured by Box Hill that use dates are Box Hill's RAID Box 5300
Turbo and RAID Box 5300 Turbo HS systems. While these products keep track of
dates for system management purposes, their normal function is not affected by
dates. The system only notes the date when it sends a message (usually read by a
member of a MIS department) about the system. That message displays the date,
for informational purposes only, in a two-digit form. After the year 2000, that
two digit number will read 00, 01, and so on. Box Hill offers a new version of
Firmware that customers can download themselves, free of charge, which allows
the system to display the year in a four-digit format. Customers, and not Box
Hill, are responsible for implementation of the new version of Firmware.
Box Hill does not know of any earlier products it has manufactured that
will not operate normally after the year 2000. However, the Company has not
evaluated all such products. The Company continues to answer Year 2000 questions
about specific products previously manufactured by Box Hill. Box Hill does not
warrant or represent that obsolete, unsupported Box Hill products are Year 2000
compliant, and Box Hill will not support such products for Year 2000 purposes.
The rights and remedies of customers as to Year 2000 date data
functionality as to any Box Hill products are governed by applicable law and
agreements between customers and Box Hill. The statements made herein by Box
Hill do not enlarge the rights and remedies of any customers as to Year 2000
date data functionality and Box Hill makes no warranties or representations by
virtue of this disclosure or otherwise regarding Year 2000 date data
functionality.
Box Hill's Internal Systems
Box Hill has evaluated its information technology infrastructure, made
modifications and identified necessary upgrades. Box Hill expects that its
infrastructure will be Year 2000 compliant by the third quarter of 1999. Box
Hill also has evaluated or received information regarding its non-information
technology infrastructure (office building systems, copiers, telephone system,
etc.) for Year 2000 readiness and believes those systems are Year 2000
compliant. The machinery used by Box Hill to manufacture its products does not
use dates, and is Year 2000 compliant by nature.
Readiness of Third Parties and Third Party Products Resold or Licensed by Box
Hill
Box Hill is in the process of evaluating, for Year 2000 compliance, the
products manufactured by third parties that Box Hill either resells or licenses
or uses to manufacture its own products. However, Box Hill does not and will not
take responsibility for Year 2000 compliance of such products, and continues to
direct customers to the respective manufacturers of those products for final
Year 2000 compliance information and assurances.
Box Hill has not evaluated other third party products which are not resold
or licensed by Box Hill but which may, in some way, interface or interconnect
with Box Hill products or products manufactured by third parties that Box Hill
either resells or licenses. Box Hill does not, and will not, take responsibility
for Year 2000 compliance of such products.
Box Hill is in the process of requesting information about the internal
Year 2000 readiness of third parties that supply Box Hill with key products and
services. To date, all third parties contacted have stated they believe they
will be compliant. However, Box Hill is incapable of testing or knowing the
accuracy of such statements and has not received information from all such third
parties.
17
<PAGE>
Costs Associated with Year 2000 Compliance
To date, Box Hill has not hired any additional employees or made any
significant purchases to carry out its Year 2000 compliance program. At this
time, the Company is not aware of any material future expenses that will be
required to enable Year 2000 compliance.
Risks Associated with the Year 2000
The full impact of the Year 2000 will not be known until January 1, 2000.
Again, the Company is not aware, at this time, of any Year 2000 non-compliance
that will not be substantially corrected by the Year 2000 and that will
materially affect the Company. However, some risks that the Company may
encounter include: the failure of its internal information system, limitations
in its work environment, a slow down in orders due to customers' business
failures, a slow down in customers' ability to make payments, the inability of
suppliers to provide necessary materials, the inability to receive heat,
electricity, water treatment services or other products or services, and the
inability of carriers to ship Box Hill's products to customers. Even if Box Hill
and its products are ready for the Year 2000, Box Hill still may be unable to
conduct business after January 1, 2000 due to failures beyond its control, such
as failures of transportation, local and nationwide, banking systems, municipal
services and other parties.
Contingency Plans
Box Hill has certain contingency plans in place to conduct business in the
event of Year 2000 malfunctions. If certain third party suppliers become unable
to provide materials or services, Box Hill will utilize substitute providers who
have been identified to provide the necessary materials and services. Should Box
Hill's internal information systems fail, Box Hill plans to manually perform the
paperwork necessary to conduct business.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK:
The Company does not use derivative financial instruments in its investment
portfolio. The Company places its investments in instruments that meet high
credit quality standards, as specified in the Company's investment policy
guidelines; the policy also limits the amount of credit exposure to any one
issue, issuer, and type of instrument. The Company does not expect any material
loss with respect to its investment portfolio.
The following table provides information about the Company's investment
portfolio. For investment securities, the table presents principal cash flows
and related weighted average interest rates by expected maturity dates. All
investment securities are expected to mature in 1999:
<TABLE>
<S> <C>
Cash equivalents............................................... $48,833
Average interest rate........................................ 3.5%
Short-term investments......................................... 3,500
Average interest rate........................................ 4.3%
Total portfolio................................................ 52,333
Average interest rate........................................ 3.6%
</TABLE>
18
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA:
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Public Accountants................................................................... 20
Consolidated Balance Sheets................................................................................ 21
Consolidated Statements of Income.......................................................................... 22
Consolidated Statements of Shareholders' Equity............................................................ 23
Consolidated Statements of Cash Flows...................................................................... 24
Notes to Consolidated Financial Statements................................................................. 25
Consolidated Financial Statement Schedule:
II. Valuation and Qualifying Accounts.................................................................... 35
</TABLE>
19
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Box Hill Systems Corp.:
We have audited the accompanying consolidated balance sheets of Box Hill Systems
Corp. (a New York Corporation) and subsidiaries as of December 31, 1998 and
1997, and the related consolidated statements of income, shareholders' equity
and cash flows for each of the three years in the period ended December 31,
1998. These financial statements and the schedule referred to below are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Box Hill Systems Corp. and
subsidiaries as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
Our audits were made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule listed in the Index to
Financial Statements and Financial Statement Schedule is presented for purposes
of complying with the Securities and Exchange Commission's rules and is not part
of the basic financial statements. This schedule has been subjected to the
auditing procedures applied in our audit of the basic financial statements and,
in our opinion, fairly states in all material respects the financial data
required to be set forth therein in relation to the basic financial statements
taken as a whole.
ARTHUR ANDERSEN LLP
Philadelphia, Pennsylvania
January 29, 1999
20
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1998 1997
------- -------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................................................. $54,214 $40,897
Short-term investments.................................................................... 3,500 9,305
Accounts receivable, net of allowance of $640 and $267.................................... 13,601 13,866
Inventories............................................................................... 8,091 7,351
Prepaid expenses and other................................................................ 1,220 344
Prepaid income taxes...................................................................... 737 --
Deferred income taxes..................................................................... 984 721
------- -------
Total current assets................................................................... 82,347 72,484
Property and equipment, net................................................................. 1,331 1,199
Deferred income taxes....................................................................... 191 134
------- -------
$83,869 $73,817
------- -------
------- -------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................................................... $ 9,796 $ 8,088
Accrued expenses.......................................................................... 4,008 2,000
Customer deposits......................................................................... 2,173 2,143
Deferred revenue.......................................................................... 2,455 1,829
Income taxes payable...................................................................... -- 757
Distribution payable...................................................................... -- 227
------- -------
Total current liabilities.............................................................. 18,432 15,044
------- -------
Deferred rent............................................................................... 287 225
------- -------
Commitments and contingencies (Note 10)
Shareholders' equity:
Preferred stock, $.01 par value, 5,000,000 shares authorized, none issued................. -- --
Common stock, $.01 par value, 40,000,000 shares authorized, 14,327,081 and 14,138,871
shares issued and outstanding.......................................................... 143 141
Additional paid-in capital................................................................ 57,157 56,491
Retained earnings......................................................................... 7,850 1,916
------- -------
Total shareholders' equity............................................................. 65,150 58,548
------- -------
$83,869 $73,817
------- -------
------- -------
</TABLE>
The accompanying notes are an integral part of these statements.
21
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Net revenues..................................................................... $72,476 $70,344 $50,027
Cost of goods sold............................................................... 47,403 45,528 33,028
------- ------- -------
Gross profit................................................................ 25,073 24,816 16,999
------- ------- -------
Operating expenses:
Shareholder officers' compensation............................................. 1,275 7,538 6,347
Engineering and product development............................................ 2,617 2,324 2,071
Sales and marketing............................................................ 8,731 6,699 5,325
General and administrative..................................................... 4,634 3,465 2,348
------- ------- -------
17,257 20,026 16,091
------- ------- -------
Operating income............................................................ 7,816 4,790 908
Interest income.................................................................. 1,924 681 144
------- ------- -------
Income before income taxes.................................................. 9,740 5,471 1,052
Income taxes..................................................................... 3,806 413 226
------- ------- -------
Net income....................................................................... $ 5,934 $ 5,058 $ 826
------- ------- -------
------- ------- -------
Basic net income per share....................................................... $ .42 $ .45 $ .08
------- ------- -------
------- ------- -------
Diluted net income per share..................................................... $ .39 $ .42 $ .08
------- ------- -------
------- ------- -------
Pro forma data (unaudited) (Note 2):
Pro forma income before income taxes........................................... $11,734
Pro forma income taxes......................................................... 4,518
-------
-------
Pro forma net income........................................................... $ 7,216
-------
-------
Pro forma basic net income per share........................................... $ .62
-------
-------
Pro forma diluted net income per share......................................... $ .57
-------
-------
</TABLE>
The accompanying notes are an integral part of these statements.
22
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL TOTAL
-------------------- PAID-IN RETAINED SHAREHOLDERS'
SHARES AMOUNT CAPITAL EARNINGS EQUITY
---------- ------ ---------- -------- --------------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1995.......................... 9,900,000 $ 99 -- $ 7,844 $ 7,943
Net income........................................ -- -- -- 826 826
---------- ---- -------- -------- --------
Balance, December 31, 1996.......................... 9,900,000 99 -- 8,670 8,769
Sale of Common Stock, net of offering costs....... 4,125,000 41 56,514 -- 56,555
Distributions to S Corporation shareholders....... -- -- -- (11,927) (11,927)
Termination of S Corporation status............... -- -- (115) 115 --
Exercise of stock options......................... 113,871 1 92 -- 93
Net income........................................ -- -- -- 5,058 5,058
---------- ---- -------- -------- --------
Balance, December 31, 1997.......................... 14,138,871 141 56,491 1,916 58,548
Exercise of stock options......................... 170,870 2 120 -- 122
Sale of common stock under Employee Stock Purchase
Plan........................................... 12,381 -- 108 -- 108
Acquisition of Box Hill Europe.................... 4,959 -- 52 -- 52
Issuance of common stock warrants................. -- -- 213 -- 213
Tax benefit of option exercises................... -- -- 173 -- 173
Net income........................................ -- -- -- 5,934 5,934
---------- ---- -------- -------- --------
Balance, December 31, 1998.......................... 14,327,081 $143 $ 57,157 $ 7,850 $ 65,150
---------- ---- -------- -------- --------
---------- ---- -------- -------- --------
</TABLE>
The accompanying notes are an integral part of these statements.
23
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------
1998 1997 1996
-------- -------- -------
<S> <C> <C> <C>
Operating Activities:
Net income.................................................................... $ 5,934 $ 5,058 $ 826
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Depreciation and amortization............................................ 389 279 257
Deferred income taxes.................................................... (320) (855) --
Non-cash compensation expense............................................ 213
Other.................................................................... 63 70 45
Changes in operating assets and liabilities:
Accounts receivable................................................... 265 (4,628) (3,989)
Inventories........................................................... (740) (1,237) (1,890)
Prepaid expenses and other............................................ (876) (129) (94)
Prepaid income taxes.................................................. (565) -- --
Accounts payable...................................................... 1,760 2,936 1,090
Accrued expenses...................................................... 2,008 889 545
Customer deposits..................................................... 30 797 551
Deferred revenue...................................................... 626 946 459
Income taxes payable.................................................. (757) 757 --
-------- -------- -------
Net cash provided by (used in) operating activities................. 8,030 4,883 (2,200)
-------- -------- -------
Investing Activities:
Purchases of property and equipment........................................... (521) (623) (284)
Sales (purchases) of short-term investments................................... 5,805 (9,305) --
-------- -------- -------
Net cash provided by (used in) investing activities................. 5,284 (9,928) (284)
-------- -------- -------
Financing Activities:
Distributions to S Corporation shareholders................................... (227) (11,700) --
Net proceeds from initial public offering..................................... -- 56,555 --
Proceeds from exercise of stock options....................................... 122 93 --
Proceeds from sale of stock to employees...................................... 108 -- --
-------- -------- -------
Net cash provided by financing activities........................... 3 44,948 --
-------- -------- -------
Net increase (decrease) in cash and cash equivalents................ 13,317 39,903 (2,484)
Cash and cash equivalents, beginning of year.................................... 40,897 994 3,478
-------- -------- -------
Cash and cash equivalents, end of year.......................................... $ 54,214 $ 40,897 $ 994
-------- -------- -------
-------- -------- -------
</TABLE>
The accompanying notes are an integral part of these statements.
24
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
1. BACKGROUND AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Background
Box Hill Systems Corp. (the "Company"), designs, manufactures, markets and
supports high performance data storage systems for the open systems computing
environment. In the United States, the Company employs a direct marketing
strategy aimed at data-intensive industries which, to date, include financial
services, telecommunications, healthcare, government/defense and academia. The
Company's international strategy has been to use distributors located outside of
the United States. The Company's manufacturing operations consist primarily of
assembly and integration of components and subassemblies into the Company's
products. The Company's manufacturing, principal research and development and
principal sales and marketing operations are conducted from a single, leased
facility in New York City.
Initial Public Offering
The Company completed an initial public offering (the "Offering") of its
Common Stock effective September 16, 1997. The offering consisted of the sale of
5.5 million shares of Common Stock at an initial public offering price of
$15.00, of which 3.3 million shares were issued and sold by the Company and
2.2 million shares were sold by individuals who were the only shareholders of
the Company prior to the Offering. Additionally, 825,000 shares of Common Stock
were purchased from the Company at $15.00 per share by the underwriters upon the
exercise of an over-allotment option. The net proceeds to the Company, after
deducting estimated underwriting discounts and offering expenses, were
approximately $56.6 million.
Principles of Consolidation
The consolidated financial statements include the accounts of Box Hill
Systems Corp. and its subsidiaries. All significant intercompany balances and
transactions have been eliminated.
Use of Accounting Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Revenue Recognition and Product Warranty
The Company recognizes revenue on product sales when products are shipped.
Revenues from maintenance contracts are deferred and recognized on a
straight-line basis over the contract term, generally twelve months. The cost of
purchase maintenance contracts is deferred and recognized as expense over the
contract term, consistent with the associated revenue. At December 31, 1998, the
balance of deferred costs of purchase maintenance contracts was $711 and is
included in prepaid expenses and other assets.
The Company generally extends to its customers the warranties provided to
the Company by its suppliers. The Company provides for the estimated cost that
may be incurred for product warranties in the period the related revenue is
recognized. To date, the Company's suppliers have covered the majority of the
Company's warranty costs. There can be no assurance that such suppliers will
continue to cover such costs in the future, which could have a material adverse
effect on the Company's financial position and results of operations.
25
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
1. BACKGROUND AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Cash and Cash Equivalents
Cash and cash equivalents include highly liquid investments purchased with
an original maturity of three months or less. Cash equivalents consist
principally of money market mutual funds.
Short-term Investments
The Company accounts for investments in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 115, "Accounting for Certain
Investments in Debt and Equity Securities". Short-term investments have been
categorized as available for sale and, as a result, are stated at fair value.
Unrealized holding gains and losses are included as a separate component of
shareholders' equity until realized. At December 31, 1998 and 1997, unrealized
holding gains and losses were not material. Short-term investments are generally
comprised of variable rate securities that provide for early redemption within
twelve months.
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market
and consist principally of purchased components used as raw materials.
Property and Equipment
Property and equipment are recorded at cost. Equipment and furniture are
depreciated using straight-line and accelerated methods over their estimated
useful lives (two to seven years). Leasehold improvements are amortized on a
straight-line basis over the life of the lease. Significant improvements are
capitalized and expenditures for maintenance and repairs are charged to expense
as incurred. Upon the sale or retirement of these assets, the applicable cost
and related accumulated depreciation are removed from the accounts and any gain
or loss is included in the statements of income.
Advertising Costs
The Company expenses advertising costs as incurred. For the years ended
December 31, 1998, 1997 and 1996, advertising expense was $499, $444, and $520,
respectively.
Product Development
Research and development costs are expensed as incurred. In conjunction
with the development of its products, the Company incurs certain software
development costs. No costs have been capitalized pursuant to SFAS No. 86,
"Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise
Marketed," since the period between achieving technological feasibility and
completion of such software is relatively short and software development costs
qualifying for capitalization have been insignificant.
Income Taxes
Deferred tax assets and liabilities are determined based on differences
between the financial reporting and tax bases of assets and liabilities and are
measured using enacted tax rates.
The Company was subject to taxation under Subchapter "S" of the Internal
Revenue Code and the New York State Tax Code from 1990 until the termination of
its S Corporation status concurrent with its initial public offering.
Accordingly, prior to the offering, no provision was made for federal or state
income taxes and the Company's shareholders' were taxed directly on their
proportionate share of the Company's taxable income. In connection with the
offering, the Company terminated its S Corporation status and is subject to
federal and state income taxes for the C Corporation's pro rata share of the
Company's 1997 taxable income. Upon terminating its
26
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
1. BACKGROUND AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
S Corporation status, the Company recorded a $855 tax benefit for the
recognition of a net deferred tax asset (see Note 6).
Net Income Per Share
In 1997, the Company adopted SFAS No. 128, "Earnings Per Share". This
statement requires that the Company report basic and diluted earnings per share
for all periods reported. Basic and diluted earnings per share are calculated by
dividing net income by the weighted average and diluted weighted average number
of shares outstanding, respectively.
The table below sets forth the reconciliation of the numerators and
denominators of the earnings per share calculation:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Net income............................................................. $ 5,934 $ 5,058 $ 826
------- ------- -------
------- ------- -------
Shares used in computing basic net income per share.................... 14,283 11,120 9,900
Dilutive effect of options............................................. 770 1,047 791
------- ------- -------
Shares used in computing diluted net income per share.................. 15,053 12,167 10,691
------- ------- -------
------- ------- -------
</TABLE>
For the year ended December 31, 1998, options to purchase 547,531 shares of
common stock with exercise prices ranging from $6.60 to $15.00 per share were
outstanding, but were not included in the computation of diluted net income per
share for the entire year because the exercise price of the options was greater
than the average market price of the common shares. These options expire at
various times through November 2008.
Supplemental Cash Flow Disclosures
Cash paid for income taxes for the years ended December 31, 1998, 1997, and
1996 was $5,459, $448 and $256, respectively.
Recent Accounting Pronouncement
In June 1997, the FASB issued SFAS No. 131, "Disclosure About Segments of
an Enterprise and Related Information." This statement establishes additional
standards for segment reporting in the financial statements and is effective for
fiscal years beginning after December 15, 1997. Management believes that the
Company operates in a single line of business and, therefore, no additional
disclosure is required.
2. PRO FORMA DATA (UNAUDITED)
Pro Forma Income Statement Data
In connection with the initial public offering, the Company entered into
employment agreements with three of its officers, who were the Company's only
shareholders prior to the Offering, which provide for a combined minimum annual
base compensation of $1,275, in addition to provisions for benefits, termination
and certain incentive compensation based on future revenues and earnings. For
informational purposes, pro forma income before income taxes for the year ended
December 31, 1997 has been presented to reflect the elimination of historical
shareholder officers' compensation expense in excess of the base salary amounts
included in employment agreements.
Additionally, concurrent with the offering, the Company terminated its
status as an S Corporation and is subject to federal and state income taxes.
Accordingly, for informational purposes, the accompanying statement of income
for the year ended December 31, 1997 includes a pro forma adjustment for the
income taxes which
27
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
2. PRO FORMA DATA (UNAUDITED)--(CONTINUED)
would have been recorded if the Company had been a C Corporation for the entire
period, based on the tax laws in effect during the period. The pro forma
adjustment for income taxes does not include the one-time income tax benefit of
$855 recorded in recognition of the net deferred tax asset.
Pro Forma Net Income Per Share
Pro forma basic and diluted net income per share were computed by dividing
pro forma net income by the weighted average number of basic and diluted shares
outstanding, respectively. Shares used in computing pro forma basic net income
per share consist of the weighted average shares outstanding. Shares used in
computing pro forma diluted net income per share consist of the weighted average
number of shares outstanding, adjusted for the dilutive effect of stock options,
using the treasury stock method. Shares used in computing pro forma basic and
diluted net income per share also include the weighted average number of shares
that were required to be sold, at the net public offering price, to fund the
$10,500 of estimated S Corporation distributions in September 1997.
3. RISKS AND UNCERTAINTIES
The Company's future results of operations involve a number of risks and
uncertainties. Factors that could affect the Company's future operating results
and cause actual results to vary materially from expectations include, but are
not limited to, dependence on new products, dependence on a limited number of
suppliers of high quality components, reliance on a limited number of principal
customers, concentration of customers in targeted industries, difficulties in
managing growth, difficulties in attracting and retaining qualified personnel,
competition, competitive pricing, dependence on key personnel, enforcement of
the Company's intellectual property rights, dependence on a single production
facility, and an uneven pattern of quarterly results.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to
concentrations of credit risk consist primarily of trade accounts receivable.
The Company does not require collateral or other securities to support customer
receivables. The majority of the Company's net revenues are derived from sales
to customers in the financial services and telecommunications industries and a
significant amount of the Company's net revenues are derived from sales to
customers located in the New York City area. For the year ended December 31,
1998 direct sales to customers in the financial services and telecommunications
industries were approximately 47% and 15%, respectively, of the Company's net
revenues and for the year ended December 31, 1997 were approximately 40% and
14%, respectively, of the Company's net revenues. For the year ended December
31, 1998, one customer accounted for 17.9% of the Company's net revenues. For
the years ended December 31, 1997 and 1996, no single customer accounted for
greater than 10% of the Company's net revenues.
Export Sales
The following table summarizes export sales by graphical region:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Asia.............................................................. 4.2% 5.8% 9.1%
Europe............................................................ 6.3% 10.2% 8.3%
Other............................................................. 1.6% 1.2% 0.6%
---- ---- ----
12.1% 17.2% 18.0%
---- ---- ----
---- ---- ----
</TABLE>
28
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
3. RISKS AND UNCERTAINTIES--(CONTINUED)
Dependence on Suppliers
The Company purchases substantially all of its disk drives, a critical
component of its storage products, from one supplier. Approximately 24.9%,
32.7%, and 52.7% of the Company's total component purchases were made from this
supplier for the years ended December 31, 1998, 1997 and 1996, respectively. The
Company resells the products of various third parties including one supplier of
tape libraries and other products. During 1998 and 1997, approximately 34% and
10%, respectively, of total purchases were from this supplier. Additionally, the
Company purchases all of its DLT tape drives from another supplier, which is the
only source for such tape drives. Approximately 2.9%, 10.5% and 16.5% of the
Company's total component purchases were from this supplier for the years ended
December 31, 1998, 1997 and 1996. There are a limited number of suppliers for
certain of the Company's other components and management believes that other
suppliers could provide certain similar products on comparable terms. Any
shortage of key components and any delay or other difficulty in obtaining such
components from other suppliers and integrating them into the Company's products
or lack of supply from sole source suppliers could have a material adverse
effect on the Company's financial position and results of operations.
4. PROPERTY AND EQUIPMENT
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1998 1997
------- -------
<S> <C> <C>
Equipment and furniture.................................................. $ 1,948 $ 1,514
Leasehold improvements................................................... 949 862
------- -------
2,897 2,376
Less--accumulated depreciation........................................... (1,566) (1,177)
------- -------
$ 1,331 $ 1,199
------- -------
------- -------
</TABLE>
Depreciation expense was $389, $279 and $257 for the years ended
December 31, 1998, 1997 and 1996, respectively.
5. CREDIT FACILITY
In October 1997, the Company entered into an agreement with a commercial
bank which provides for a $10 million revolving line of credit. The Company did
not have any borrowings under this facility in 1998 or 1997. Borrowings under
the facility will be collateralized by a pledge of substantially all of the
Company's assets and borrowings greater than $5 million will also be required to
be secured by short-term investments. Additionally, the Company is required to
comply with certain financial covenants, as defined. The revolver expires in May
1999.
29
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
6. INCOME TAXES
The components of the income tax provision are as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1998 1997 1996
------ ------ ----
<S> <C> <C> <C>
Current:
Federal.................................................................... 2,729 $ 867 $ --
State and local............................................................ 1,397 401 226
------ ------ ----
4,126 1,268 226
Deferred:
Federal.................................................................... (216) -- --
State and local............................................................ (104) -- --
Recognition of deferred tax asset.......................................... -- (855) --
------ ------ ----
(320) (855) --
------ ------ ----
$3,806 $ 413 $226
------ ------ ----
------ ------ ----
</TABLE>
The provision for income taxes for the year ended December 31, 1998,
consists of federal and state income taxes. The provision for income taxes for
the year ended December 31, 1997, consists of federal and state income taxes on
the C Corporation's pro rata portion of the Company's 1997 taxable income, New
York City taxes, state franchise taxes and a one-time tax benefit of $855
related to the recognition of the net deferred tax asset recorded by the Company
upon terminating its S Corporation status. For the year ended December 31, 1996,
the provision for income taxes consists of New York City taxes and state
franchise taxes.
The statement of income for the year ended December 31, 1997 includes a pro
forma adjustment for the income taxes which would have been recorded if the
Company had been a C Corporation for the entire period, based on tax laws in
effect during the respective period. The reconciliation of the federal statutory
income tax rate and the actual and pro forma effective income tax rate is as
follows for the years ended December 31, 1998 and 1997, respectively:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------------
PRO FORMA
1998 1997
----------------------- -----------------------
<S> <C> <C>
Federal statutory rate........................................... 34.0% 34.0%
State and local income taxes, net of federal benefit............. 10.9 6.2
Permanent differences and other.................................. (5.8) (1.7)
----- -----
39.1% 38.5%
----- -----
----- -----
</TABLE>
The tax effect of temporary differences that give rise to the gross
deferred income tax assets are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------
1998 1997
------ ----
<S> <C> <C>
Warranty accrual............................................................. $ 372 $228
Inventory reserve............................................................ 205 238
Vacation accrual............................................................. 113 86
Allowance for bad debts...................................................... 233 114
Depreciation................................................................. 69 37
Deferred rent................................................................ 123 97
Other accruals and reserves.................................................. 60 55
------ ----
$1,175 $855
------ ----
------ ----
</TABLE>
30
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
7. STOCK INCENTIVE PLAN
Employee Stock Options
The Company's stock incentive plan (the "Plan"), adopted in May 1995 and
amended in July 1997, provides for the granting of incentive and nonqualified
stock options to employees, non-employee directors, and consultants. The Company
has currently reserved 2,392,500 shares of Common Stock for issuance pursuant to
the Plan. The terms and conditions of grants of stock options are determined by
the Board of Directors in accordance with the terms of the Plan.
Information with respect to options under the Plan is as follows:
<TABLE>
<CAPTION>
WEIGHTED
NUMBER OF RANGE OF AVERAGE
SHARES EXERCISE PRICE EXERCISE PRICE
--------- ---------------- --------------
<S> <C> <C> <C>
Balance, December 31, 1995................................... 1,043,833 $ .64-.75 $ 0.69
Grants....................................................... 68,947 .83-5.02 1.93
--------- ---------------- ------
Balance, December 31, 1996................................... 1,112,780 .64-5.02 0.77
Grants....................................................... 577,850 5.03-15.00 13.13
Forfeitures.................................................. (19,832) .75-5.02 1.66
Exercises.................................................... (113,871) .75-5.02 0.82
--------- ---------------- ------
Balance, December 31, 1997................................... 1,556,927 .64-15.00 5.34
Grants....................................................... 265,500 5.50-10.50 9.15
Forfeitures.................................................. (313,447) .75-12.73 10.94
Exercises.................................................... (170,870) .64-2.23 0.71
--------- ---------------- ------
Balance, December 31, 1998................................... 1,338,110 $ .64-15.00 $ 5.38
--------- ---------------- ------
--------- ---------------- ------
</TABLE>
At December 31, 1998, 649,779 options were exercisable and 619,650 options
were available for future grants. The options generally vest ratably over a
five-year period and are exercisable over a period of ten years, with the
exception of 291,531 options issued to outside directors which vest ratably over
a four-year period.
Information with respect to options issued under the Plan at December 31,
1998 is as follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
---------------------------------------- OPTIONS EXERCISABLE
WEIGHTED ------------------------
AVERAGE WEIGHTED WEIGHTED
REMAINING AVERAGE AVERAGE
RANGE OF CONTRACTUAL EXERCISE EXERCISE
EXERCISE PRICE OUTSTANDING LIFE PRICE OUTSTANDING PRICE
- -------------- ----------- ----------- -------- ----------- --------
<S> <C> <C> <C> <C> <C>
$.64-$.75 732,115 6.7 years $ .68 490,351 $ .68
$.83-$5.02 36,564 7.3 years 1.84 19,725 1.65
$5.03-$15 569,431 8.9 years 11.64 139,703 12.78
</TABLE>
The Company applies Accounting Principal Board Opinion No. 25, "Accounting
for Stock Issued to Employees," and the related interpretations in accounting
for its stock option plan.
Had compensation cost for the Plan been determined based upon the fair
value of the options issued to employees at the date of grant, as prescribed by
SFAS No. 123, "Accounting for Stock-Based Compensation,"
31
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
7. STOCK INCENTIVE PLAN--(CONTINUED)
the Company's net income and basic and diluted net income per share would have
been reduced to the following amounts:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------
PRO FORMA
1998 1997
----------------------- -----------------------
<S> <C> <C>
Net income:
As reported................................................. $ 5,934 $ 7,216
As adjusted................................................. 5,363 6,566
Basic net income per share:
As reported................................................. $ .42 $ .62
As adjusted................................................. .38 .56
Diluted net income per share:
As reported................................................. $ .39 $ .57
As adjusted................................................. .36 .52
</TABLE>
The weighted average fair value of each stock option granted during the
years ended December 31, 1998, 1997 and 1996 was $5.98, $8.67 and $1.86,
respectively.
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------
1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
Risk-free interest rate........................................ 5.5% 6.4% 6.0%
Expected dividend yield........................................ -- -- --
Expected life.................................................. 7 years 7 years 7 years
Expected volatility............................................ 60% 60% --
</TABLE>
Because additional option grants are expected to be made each year, the
above pro forma disclosures are not representative of pro forma effects of
reported net income for future years.
Stock Options Issued to Consultant
In October 1998, the Company issued an option to a sales consultant to
purchase 150,000 shares of Common Stock at an exercise price of $5.00, which was
equal to the fair value of the Company's stock on the date of grant. The option
was exercisable immediately and expires in January 2000. The Company recorded a
charge of $213 for the year ended December 31, 1998 for the fair value of option
on the date of grant, which was calculated using the Black-Scholes option
pricing model.
8. RELATED PARTY TRANSACTIONS
Distributions to S Corporation Shareholders
In September 1997, the Company made distributions of $10,500 to its
S Corporation shareholders, representing the estimated taxed, but undistributed
S Corporation earnings of the Company as of June 30, 1997. In December 1997, the
Company made distributions of $1,200 to its S Corporation shareholders,
representing the estimated taxed, but undistributed, S Corporation earnings of
the Company as of December 31, 1997. In March 1998, the Company made
distributions of $227 to its S Corporation shareholders, representing the final
distribution for taxed, but undistributed, S Corporation earnings.
32
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
8. RELATED PARTY TRANSACTIONS--(CONTINUED)
Box Hill Europe
Box Hill Systems Europe Limited ("Box Hill Europe") was formed in 1995 by
the Company's founding shareholders to provide marketing and technical support
services to the Company in Europe. Effective January 1, 1998, the Company issued
4,959 shares of common stock to the founding shareholders, collectively, in
exchange for 100% of the shares of Box Hill Europe (the "Merger"). The
transaction has been accounted for as a merger between entities under common
control in accordance with APB No. 16, "Accounting for Business Combinations".
After the Merger, Box Hill Europe became a wholly owned subsidiary of the
Company. On January 1, 1998, the fair value of the 4,959 shares of Box Hill
common stock issued to the founding shareholders was $52; which was equal to the
net book value of Box Hill Europe on that date. No restatement of the Company's
financial statements is required as a result of this transaction because the
results of Box Hill Europe, consisting only of sales and marketing expenses,
have been included in the Company's statements of operations for all periods
prior to the Merger.
9. EMPLOYEE BENEFIT PLANS
Retirement Savings Plan
Effective August 1, 1995, the Company established a retirement savings plan
under the provisions of Section 401(k) of the Internal Revenue Code. The plan
covers all employees who were employed on the effective date of the plan or upon
the attainment of age 21. The Company can make discretionary contributions to
the plan. No contributions were made to the plan for the years ended December
31, 1998, 1997 and 1996.
Employee Stock Purchase Plan
In August 1997, the Company adopted an employee stock purchase plan under
the provisions of Section 423 of the Internal Revenue Code. The plan provides
eligible employees of the Company with an opportunity to purchase shares of the
Company's Common Stock at 85% of fair market value, as defined. The Company has
reserved 250,000 shares of Common Stock for issuance pursuant to this plan. For
the year ended December 31, 1998, 12,381 shares were issued under the plan.
10. COMMITMENTS AND CONTINGENCIES
Operating Leases
The Company leases its primary operating facility under a noncancelable
operating lease which expires in September 2007. The lease provides for a rent
abatement which is being amortized over the life of the lease. Rent expense for
the years ended December 31, 1998, 1997 and 1996, was $685, $472 and $369,
respectively.
Future minimum lease payments, on a cash basis, under all noncancelable
operating leases at December 31, 1998, are as follows:
<TABLE>
<S> <C>
1999............................................................. $ 621
2000............................................................. 637
2001............................................................. 652
2002............................................................. 628
2003............................................................. 671
Thereafter....................................................... 2,595
------
$5,804
------
------
</TABLE>
33
<PAGE>
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
10. COMMITMENTS AND CONTINGENCIES--(CONTINUED)
Employment Agreements
The Company has an employment contract with its Chief Executive Officer
("CEO") which provides for base annual compensation, incentive bonus, benefits
and termination. Either the Company or the CEO may terminate the agreement at
any time with or without cause. However, if the Company terminates the agreement
without cause, the Company must continue to pay the CEO for a one year period
subsequent to the termination. The agreement contains a non-competition covenant
for an eighteen month period following termination of employment.
During 1998, the Company hired and employed its Executive Vice President of
Sales pursuant to terms which provide for base annual compensation, commissions,
benefits and termination. The Company is in the process of negotiating an
employment contract and compensation plan with this officer. The proposed
agreement is expected to contain severance, disability and noncompetition
provisions following termination of employment.
On July 15, 1997, the Company entered into employment agreements with its
three shareholder officers, which commenced on September 22, 1997. The
agreements provide for combined minimum annual base compensation of $1,275,
benefits, termination, non-competition and death benefits. The agreements extend
through December 31, 2000. In addition, the shareholder officers are eligible
for combined annual bonus equal to (i) 1.0% of the consolidated net revenues of
the Company in excess of $100 million, plus (ii) 8.0% of the income before
income taxes in excess of $20 million, for any fiscal year during the agreement
term.
Class Action Lawsuits
In December 1998, four shareholder class action lawsuits were filed against
the Company, certain of its officers and directors, and the underwriters of the
Company's September 16, 1997 initial public offering (the "Offering"). The
actions were filed on behalf of purchasers of the Common Stock of the Company
during the period from September 16, 1997 to April 14, 1998 and allege that the
Company made misrepresentations of material fact and omitted material facts
required to be disclosed in the Company's registration statement and prospectus
issued in connection with the Offering and in statements allegedly made by the
Company and certain of its officers and directors subsequent to the Offering.
The Company believes that it has meritorious defenses to plaintiffs' claims and
intends to vigorously defend against those claims. Legal costs to defend the
claims are expected to be material and will be charged to expense as incurred.
Other Litigation
The Company is involved in certain other legal actions and claims arising
in the ordinary course of business. Management believes that the outcome of such
other litigation and claims will not have a material adverse effect on the
Company's financial position or results of operations.
11. RECAPITALIZATION
On July 3, 1997, the Company's Board of Directors and Shareholders approved
an amendment to the Company's Certificate of Incorporation authorizing 5,000,000
shares of $.01 par value Preferred Stock and authorized a 3.3-for 1 split of its
Common Stock. The authorized Preferred Stock and the stock split have been
retroactively reflected in the accompanying financial statements.
34
<PAGE>
SCHEDULE II
BOX HILL SYSTEMS CORP. AND SUBSIDIARIES
CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
ADDITIONS
BALANCE AT CHARGED TO BALANCE AT
BEGINNING COSTS AND END OF
CLASSIFICATIONS OF PERIOD EXPENSES DEDUCTIONS PERIOD
- ------------------------------------------------------ ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
For the Year Ended, December 31, 1998 Allowance
for doubtful accounts............................... $267,000 $373,000 $ -- $640,000
-------- -------- -------- --------
-------- -------- -------- --------
For the Year Ended, December 31, 1997 Allowance
for doubtful accounts............................... $206,000 $ 61,000 $ -- $267,000
-------- -------- -------- --------
-------- -------- -------- --------
For the Year Ended, December 31, 1996 Allowance
for doubtful accounts............................... $162,000 $ 44,000 $ -- $206,000
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
35
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE:
On January 6, 1997, the Company engaged Arthur Andersen LLP as its
independent public accountants to audit the financial statements as of
December 31, 1996 and for the year then ended. The decision to change
accountants was approved by the Board of Directors. The report of the
predecessor auditor, Perelson Weiner, on the Company's financial statements as
of December 31, 1995 and for the year ended December 31, 1995, does not contain
an adverse opinion or a disclaimer of opinion and was not qualified or modified
as to uncertainty, audit scope or accounting principles. In connection with the
audits of the Company's financial statements for the year ended December 31,
1995 and in the subsequent interim period prior to the change, there were no
disagreements with the former auditors or any matters of accounting principles
or practices, financial statement disclosure, or auditing scope or procedures
which, if not resolved to the former auditor's satisfaction, would have caused
them to make reference to the subject matter in their report. Prior to retaining
Arthur Andersen LLP, the Company did not consult with Arthur Andersen LLP
regarding the application of accounting principles to a specified transaction,
the type of audit opinion that might be rendered on the Company's financial
statements, or any other matter.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT:
Refer to pages 4 through 7 and the section entitled Section 16(a)
Beneficial Ownership Reporting Compliance of Box Hill's definitive Proxy
Statement dated March 31, 1999, which are incorporated herein by reference. Also
refer to the section entitled Executive Officers of the Registrant in Part I of
this Forum.
ITEM 11. EXECUTIVE COMPENSATION:
Refer to pages 8 through 11 of Box Hill's definitive Proxy Statement
dated March 31, 1999, which are incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT:
(a) Security Ownership of Certain Beneficial Owners:
Refer to the section entitled "Security Ownership of Certain
Beneficial Owners" appearing on page 7 of Box Hill's definitive Proxy
Statement dated March 31, 1999, which is incorporated herein by reference.
(b) Security Ownership of Management:
Refer to the section entitled "Common Stock and Total Stock-Based
Holdings of Management" appearing on page 7 and 8 of Box Hill's
definitive Proxy Statement dated March 31, 1999, which is incorporated
herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS:
Refer to the section entitled "Other Relationships" appearing on
page 6 of Box Hill's definitive Proxy Statement dated March 31, 1999, which is
incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K:
(a) The following documents are filed as part of this report:
1. Financial statements:
Report of Independent Accountants--Arthur Andersen LLP (page
20).
Consolidated Balance Sheets at December 31, 1998 and 1997 (page
21).
36
<PAGE>
Consolidated Statements of Income for the years ended
December 31, 1998, 1997 and 1996 (page 22).
Consolidated Statements of Shareholders' Equity for the years
ended December 31, 1998, 1997 and 1996 (page 23).
Consolidated Statements of Cash Flows for the years ended
December 31, 1998, 1997 and 1996 (page 24).
Notes to Consolidated Financial Statements (pages 25 through 34)
2. Financial statement schedules required to be filed by Item 8 of
this Form:
SCHEDULE
PAGE NUMBER
---- --------
35 II Valuation and Qualifying Accounts
All other schedules are omitted as the required matter is not present, the
amounts are not significant or the information is shown in the financial
statements or the notes thereto.
3. Exhibits:
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------------------------------------------------------------------------------------------------------
<S> <C> <C>
3.1 -- Certificate of Incorporation of the Company*
3.2 -- Form of Amendment to Certificate of Incorporation*
3.3 -- Amended and Restated By-laws of the Company*
4.1 -- Form of Common Stock certificate of the Company*
9.1 -- Voting Agreement dated July 31, 1997 among Dr. Monderer, Ms. Turchin and Mr. Mays*
10.1 -- Compensation Plan and agreement between the Company and Philip Black*
10.2 -- Employment Agreement between the Company and Carol Turchin*
10.3 -- Employment Agreement between the Company and Benjamin Monderer*
10.4 -- Employment Agreement between the Company and Mark Mays*
10.5 -- Incentive Program of the Company, as amended*
10.6 -- License Agreement with Emulex Corporation*
10.7 -- Lease Agreement, dated as of December 23, 1993, as extended and modified, related to the Company's
facilities in New York City*
10.8 -- Employee stock Purchase Plan*
10.9 -- Lease Modification Agreement
11.1 -- 1999 Compensation Plan and Agreement between the Company and Philip Black
16.1 -- Letter re: change in certifying accountants*
23.1 -- Consent of Arthur Andersen LLP
24.1 -- Powers of Attorney
27.1 -- Financial Data Schedule
99.1 -- Box Hill's definitive Proxy Statement dated March 31, 1999, certain sections of which have been
incorporated herein by reference.
</TABLE>
- ------------------
* Incorporated by reference from Registration Statement No. 333-31873
(b) Reports on Form 8-K:
(i) Box Hill filed a Report on Form 8-K dated December 23, 1998
reporting that the Company and certain directors and officers had
been named as defendants in purported shareholder class actions.
37
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON
ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
BOX HILL SYSTEMS CORP.
(Registrant)
By: /s/ PHILIP BLACK
-----------------------------------
Philip Black
(Chief Executive Officer)
Date: March 30, 1999
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE
REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------------------ ------------------------------------------- ------------------
<S> <C> <C>
/s/ R. ROBERT REBMANN, JR. Principal Financial and Accounting Officer March 30, 1999
------------------------------------ and Treasurer
R. Robert Rebmann, Jr.
/s/ BENJAMIN BRUSSELL Director
------------------------------------
Benjamin Brussell
/s/ MARK A. MAYS Director
------------------------------------
Mark A. Mays
/s/ BENJAMIN MONDERER Director
------------------------------------
Benjamin Monderer
/s/ MISCHA SCHWARTZ Director
------------------------------------
Mischa Schwartz
/s/ CAROL TURCHIN Director
------------------------------------
Carol Turchin
</TABLE>
38
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------------------------------------------------------------------------------------------------------
<S> <C> <C>
3.1 -- Certificate of Incorporation of the Company*
3.2 -- Form of Amendment to Certificate of Incorporation*
3.3 -- Amended and Restated By-laws of the Company*
4.1 -- Form of Common Stock certificate of the Company*
9.1 -- Voting Agreement dated July 31, 1997 among Dr. Monderer, Ms. Turchin and Mr. Mays*
10.1 -- Compensation Plan and agreement between the Company and Philip Black*
10.2 -- Employment Agreement between the Company and Carol Turchin*
10.3 -- Employment Agreement between the Company and Benjamin Monderer*
10.4 -- Employment Agreement between the Company and Mark Mays*
10.5 -- Incentive Program of the Company, as amended*
10.6 -- License Agreement with Emulex Corporation*
10.7 -- Lease Agreement, dated as of December 23, 1993, as extended and modified, related to the Company's
facilities in New York City*
10.8 -- Employee stock Purchase Plan*
10.9 -- Lease Modification Agreements
11.1 -- 1999 Compensation Plan and Agreement between the Company and Philip Black
16.1 -- Letter re: change in certifying accountants*
23.1 -- Consent of Arthur Andersen LLP
24.1 -- Powers of Attorney
27.1 -- Financial Data Schedule
99.1 -- Box Hill's definitive Proxy Statement dated March 31, 1999, certain sections of which have been
incorporated herein by reference.
</TABLE>
- ------------------
* Incorporated by reference from Registration Statement No. 333-31873
39
<PAGE>
LEASE MODIFICATION AGREEMENT
----------------------------
DATED: May 29, 1998
Reference is hereby made to the lease dated December 23rd, 1993 between Earle
W. Kazis Associates, Inc., agent for Earle W. Kazis, Ronald J. Mount and
Spring and Americas Associates, as Tenants in Common ("Landlord"), and BoxHill
Systems Corporation ("Tenant") for the entire tenth floor, as extended and
modified to include a portion of the ninth floor by Lease Extension and
Modification Agreement dated July 13, 1995, as further extended and modified
to include portions of the eleventh floor by Lease Extension and Modification
Agreements dated April 15, 1997 and June 30, 1997, of the building known by
street number as 161 Avenue of the Americas, in the borough of Manhattan,
City, County and State of New York.
It is understood and agreed as follows:
1. Effective as of the date hereof, the said lease is modified to
include a portion of the eleventh floor (the "Additional Eleventh
Floor Premises") as more particularly described and cross-hatched in
red on the plan attached hereto and made a part hereof and marked
"Exhibit B-2".
2. Effective as of October 1, 1998, Tenant's base rent as shown in the
said lease shall be modified to be as follows:
10/01/98 - 12/31/99: $608,448.00/annum; 50,704.00/mo.;
01/01/00 - 12/31/00: 636,984.00/annum; 53,082.00/mo.;
01/01/01 - 12/31/01: 652,140.00/annum; 54,345.00/mo.;
01/01/02 - 12/31/02: 627,660.00/annum; 52,305.00/mo.;
01/01/03 - 12/31/03: 671,160.00/annum; 55,930.00/mo.;
01/01/04 - 12/31/04: 672,372.00/annum; 56,031.00/mo.;
01/01/05 - 09/30/07: 699,276.00/annum; 58,273.00/mo.;
Said base rent, as modified, shall be payable in advance without demand
therefor, on the first day of each month for the balance of the lease term, in
lawful money of the United States, together with, when due or demanded, such
other sums as are payable in accordance with said lease, by the Tenant as
additional rent.
3. For the purpose of calculating Tenant's "proportionate share" of the
"total real estate taxes" as defined in Article Thirty-Eighth of the
said lease, Article Thirty-Eighth is hereby modified and Tenant's new
total square footage is deemed to be 52,342 and Tenant's new
proportionate share is deemed to be 19.68%.
4. For the purpose of calculating Tenant's "pro rata share" of the
"operating expenses" as defined in Article Thirty-Ninth of the said
lease, Article Thirty-Ninth is hereby modified to provide that the
numerator of the pro rata fraction is 52,342.
5. Landlord shall, at its sole cost and expense, purchase and deliver to
the Additional Eleventh Floor Premises, a 30-ton air-cooled package
air conditioning unit. Tenant, at its sole cost and expense shall
power-wire and provide and install ductwork for the unit.
6. Tenant agrees to accept the promises in an "as is" condition, vacant
and broom clean, and to alter and remodel the premises for its
intended use at the Tenant's sole cost and expense, including the
purchase and installation of an electric meter (compatible with the
building's system) to measure Tenant's consumption of electricity in
the Additional Eleventh Floor Premises.
<PAGE>
7. Landlord agrees to provide a work allowance to Tenant in the amount
of $2,800.00 which Tenant agrees to spend on making improvements to
the Additional Eleventh Floor Premises. Such work allowance shall be
paid by Landlord to Tenant promptly after all of the following has
occurred: (a) completion of all Tenant work in the Additional
Eleventh Floor Premises in accordance with Paragraph Fourth of the
subject lease, (b) Tenant is open for business and operating in the
Additional Eleventh Floor Premises, and (c) Tenant has completed all
payments to the contractor.
8. Tenant shall have the right to occupy the Eleventh Floor Premises
pursuant to all of the terms and conditions contained in the subject
lease agreement, as modified, with no base rent or additional rent
payments (other than for the costs of electric power used)
attributable to the Additional Eleventh Floor Premises to become due
and payable prior to October 1, 1998.
9. Commencing October 1, 1998, Tenant shall no longer pay Landlord for
Tenant's pro rata Share of the costs of cleaning the common areas,
including lavatories, on the 11th floor of the building. From said
date through the date on which the lease shall expire, Tenant shall
be responsible for the cleaning of the hallways and lavatories on the
Eleventh Floor.
10. Except as modified herein, the said lease is in all respects ratified
and confirmed.
11. This Lease Extension and Modification Agreement shall become
effective only when it has been signed by a duly authorized
representative of each of the parties hereto and delivered, fully
executed, by the Landlord to the Tenant.
IN WITNESS WHEREOF, Earle W. Kazis Associates, Inc., agent for Earle W. Kazis,
Ronald J. Mount and Spring and Americas Associates, as Tenants in Common, as
Landlord, and BoxHill Systems Corporation, as Tenant, have caused this
instrument to be executed on the date first above written.
Witness as to Landlord: LANDLORD
EARLE W. KAZIS ASSOCIATES, INC.
Agent for
Earle W. Kazis, Ronald J. Mount and
Spring and Americas Associates as
Tenants in Common
/s/ Steven H. Cytryn /s/ Charles Rosenbluth
- -------------------------------- --------------------------------------
Charles Rosenbluth
Executive Vice President
Witness as to Tenant: TENANT
BOXHILL SYSTEMS CORPORATION
/s/ Kenneth W. Pitz /s/ Benjamin Monderer
- -------------------------------- --------------------------------------
Benjamin Monderer
President
<PAGE>
COMPENSATION PLAN AND AGREEMENT
This Agreement is made as of the 1st day of January 1999, by Box Hill
Systems Corp., a New York Corporation, with offices at 161 Avenue of the
Americas, New York, N.Y. 10003 ("BH") and Philip Black, individually, residing
at 15 Cornel Drive, Goldens Bridge, NY 10526 ("PB").
BH and PB each recognize that:
BH is in the business of providing a variety of unique products and
services to its clients and PB is an individual with unique executive management
capabilities;
NOW, THEREFORE, in consideration of the foregoing and the mutual covenants
set out below, and as an integral part of the terms of PB's employment with BH,
PB and BH, intending to be legally bound, agree as follows:
I. POSITION & APPLICATION OF AGREEMENT
PB is hired by BH, subject to the terms and conditions of this Agreement,
as the Chief Executive Officer ("CEO") of BH. This Agreement will remain in
effect unless terminated in accordance with its terms.
PB is an Employee At Will of BH and PB's employment with BH may be
terminated by PB or BH in accordance with the provisions hereof.
PB's position may be changed by BH, at its option, from time to time, upon
30 days prior written notice to PB. Any change of position of PB effected by BH
and not voluntarily accepted by PB, shall be treated as a termination of PB for
"Convenience" and without "Cause" by BH, as provided for by the termination
provisions of this Agreement.
PB shall devote his full time and attention to his position with BH.
PB shall work at the direction of the Board of Directors of BH. PB will be
a member of the Executive Committee established by the Board of Directors of BH.
PB will perform such work, as is consistent and commensurate with PB's
position and will make all best efforts to properly discharge all of PB's
performance obligations under this Agreement.
PB has been requested by BH to serve as a member of the Board of Directors
of BH. PB has agreed to accept such appointment without additional compensation.
BH's entire obligation and liability to PB is established by this Agreement
unless limited by applicable
<PAGE>
law.
PB understands that certain provisions of this Agreement will continue to
apply to PB and will continue to bind PB following the termination of this
Agreement, for any reason whatsoever.
II. WARRANTIES & REPRESENTATIONS OF PB
PB warrants and represents to BH that he has fully disclosed to BH all
information which would influence BH's decision to enter into this Agreement
with PB and that he is not subject to any claims, actions, proceedings,
obligations, or liabilities which PB has not fully disclosed to BH.
PB warrants and represents to BH that he has fully investigated and
explored the opportunities and risks presented by this Agreement and that he is
not entering into this Agreement on the basis of any promise or commitment not
expressly set forth herein.
PB warrants and represents to BH that he fully understands and agrees that
BH may enter into understandings and agreements with other parties for other
positions which may be similar, or different from those as established hereby
and nothing in this Agreement or otherwise shall restrict BH from entering into
such understandings or agreements.
PB warrants and represents to BH that he is free to enter into this
Agreement and that he is not subject to any restrictions or limitations of any
form, irrespective of whether such have been enforced.
III. RESTRICTIONS ON PB
Without limiting the applicability of the other provisions hereof, the
following restrictions apply to PB while this Agreement is in effect:
PB may not offer, promise, give, assign, or pay any portion or all of his
compensation to any other individual or entity without the prior approval of BH.
While actively employed by BH, PB shall not, without the written consent of
the Board of Directors of BH, participate directly in any business activity that
is competitive with the current business of BH.
PB agrees that he is subject to a code of ethical conduct and all
applicable laws, regulations and rules and shall perform the work under this
Agreement in accordance with all applicable laws, regulations and rules and
ethical standards.
IV. COMPENSATION & TAXES
2
<PAGE>
Compensation shall be payable by BH to PB, as described in Attachment A.
PB shall only be entitled to compensation for and during the time in which
this Agreement is in effect, except as otherwise expressly provided for herein.
PB is responsible for all taxes, duties, or similar charges arising out of
compensation paid by BH to PB under this Agreement or any other benefits
provided by BH to PB under this Agreement, including, the grant by BH to PB of
any stock options as to the stock of BH.
V. INTELLECTUAL PROPERTY RIGHTS
PB does hereby assign and grant to BH the entire right, title and interest
of PB, in and to, any work PB furnishes or produces or which results from this
Agreement (whether or not copyrightable or patentable) irrespective if such work
is conceived or first actually reduced to practice in the course of performance
of this Agreement.
PB does hereby assign and grant to BH the entire right, title and interest
of PB in and to all ideas, concepts, know-how, inventions, improvements,
discoveries or other intellectual property, (whether or not copyrightable or
patentable), conceived or first actually reduced to practice in the course of
performance of this Agreement.
PB will, without charge to BH and at BH's request execute such documents
and instruments, including, but not limited to, an assignment of title, to
reflect the foregoing.
VI. CONFIDENTIALITY
PB expressly covenants and agrees that he will not at any time, whether
during the term of employment hereunder or thereafter, unless expressly
permitted to do so by BH, reveal or disclose to any firm, person, or entity, nor
permit to be revealed or disclosed, any confidential information or data
concerning, BH's business, finances, products and services or the business,
finances, products and services of BH's clients, suppliers, employees and
subcontracts, nor shall PB, directly or indirectly, use any such information,
except, as expressly permitted to do so by BH. Except where information is in
the public domain, PB specifically acknowledges and agrees that information and
data regarding computer hardware, computer software programs, systems developed
or improved by BH personnel, the identity of BH's actual and potential clients
and client representatives and contacts, the nature of the products or services
provided by BH and the prices charged
3
<PAGE>
therefore, the identities of BH's actual and prospective employees, suppliers
and subcontractors, and the specific skills possessed by BH's actual and
prospective employees, suppliers and subcontractors are to be treated as
confidential and proprietary, and that such information and data constitute BH
trade secrets or are otherwise confidential and proprietary to BH.
Upon termination, PB agrees not to, directly or indirectly, use for any
purposes whatsoever such confidential information and data and that PB will
continue to protect such confidential information and data from disclosure to
any other party.
Upon termination, PB agrees to promptly deliver to BH all materials or
property in his possession or control belonging to BH, or its clients, suppliers
and subcontractors, in any and all forms, and any and all copies thereof,
including, but not limited to, any and all sales information, files and reports,
data bases, telephone directories, manuals, procedures, visual aids, customer
lists, correspondence and any other material and property relating to the
business of BH, or its clients suppliers and subcontractors.
PB shall not divulge or furnish to BH or any third party with whom PB may
be in contact with as a result of this Agreement, any information or data which
PB does not have the right to divulge or furnish and PB shall not infringe upon
any property right of BH or any third party in the performance of this
Agreement.
VII. TERMINATION
BH may terminate this Agreement and PB's employment hereunder for "Cause",
arising from PB's substantial and material breach of this Agreement or any other
reason constituting "Cause" as established by applicable law, upon written
notice to PB.
PB may terminate this Agreement and PB's employment hereunder, for "Cause",
upon written notice to BH, arising from BH's substantial and material breach of
this Agreement.
BH may terminate this Agreement and PB's employment hereunder, for
"Convenience" and without "Cause", at any time, upon 30 days prior written
notice to PB.
PB may terminate this Agreement and PB's employment hereunder, for
"Convenience" and without "Cause", at any time, upon 30 days prior written
notice to the BH.
In the event of termination of PB by BH for "Cause" as provided for above
or if PB terminates this Agreement for "Convenience" and without "Cause", PB
shall only be entitled to compensation actually earned
4
<PAGE>
by PB, as of the effective date of termination. Compensation for purposes of
this paragraph and the next paragraph means salary earned by PB as of the
effective date of termination plus commission and bonus on positive revenue and
profits as of the effective date of termination, plus any other earnings accrued
to the effective date of termination pursuant to Attachment A hereto.
In the event of termination by PB for "Cause" as provided for above or if
BH terminates this Agreement for "Convenience" and without "Cause", provided PB
observes all the other provisions of this Agreement including, the
confidentiality, non-interference and non-competition provisions of this
Agreement, PB shall be entitled to the compensation as specified in the
preceding paragraph plus Severance Compensation. Severance Compensation for
purposes of this paragraph shall mean PB's base salary for the four quarters
prior to the effective date of termination plus an amount equal to the
commissions and bonus on positive revenue and profits earned during the prior
four quarters plus any other earnings accrued to the effective date of
termination pursuant to Attachment A hereto. Severance Compensation (except as
to the commission component thereof) is payable in installments over the year
subsequent to the effective date of termination in the same manner as
remuneration is paid by BH. The commission component of the Severance
Compensation is payable at the end of the month following the month during which
the commissions were earned. During any period of time that severance payments
are being made and that PB is not otherwise employed, all fringe benefits
provided for in Attachment A shall be maintained and provided to PB at the
expense of BH. PB acknowledges that certain companies are direct competitors of
BH ("Competitors"), including but not limited to: Andataco, Artecon, EMC, Data
General-Clariion, Compaq, Dell, Ciprico, IBM, MTI, Hewlett Packard, Sun, Data
Link, Cranel, Vanguard, Raid Power, StorageTek and any successors thereto. If
the circumstances of PB's termination otherwise entitle PB to Severance
Compensation, as set forth in Section VII, and if PB chooses to be employed by
any Competitors during the year-long period that PB would otherwise receive
Severance Compensation, PB agrees he shall not receive and shall forfeit
Severance Compensation, including benefits, for any period during which his
employment with a Competitor overlaps the year during which he is entitled to
Severance Compensation.
PB shall not be entitled to any other amount or form of compensation from
BH, except as expressly set forth in this Agreement.
5
<PAGE>
VIII. NON-COMPETITION
Both PB and BH acknowledge that the unique qualities and characteristics
and capabilities which PB has are a result of his extensive knowledge of the
industry, the companies in the industry as customers, and the companies in the
industry as providers of services. BH acknowledges that PB has 25 years of
experience in the computer/telecoms industry and has developed numerous
contacts, expertise, skills and extensive information, all which are valuable
and useful to BH, and provides the basis for BH employing PB. BH understands
that should PB's employment with BH terminate for any reason, in all likelihood,
for PB to be a productive person, obtain appropriate work and earn appropriate
compensation, such work would be in the industry of computer/data processing,
including but not limited to the industry segment for data storage and backup.
Therefore, as of the effective date of any termination,and for a period eighteen
months, PB agrees not to take any action with the intent of causing any
then-customer or supplier of BH to cease or diminish doing business with BH and
to do business with any person or entity directly or indirectly associated with
PB. In addition, for a period eighteen months, PB will not solicit or have
contact with, directly or indirectly, any employee of BH with the intention of
effecting a termination of employment with BH for any purpose.
Subject to the foregoing, BH agrees that in the event of termination, PB
may enter into employment or otherwise engage in business in the
computer/telecoms industry, as had PB prior to employment by BH; without
interference from BH.
BH and PB agree that the period of time and other specifications set forth
are reasonable in view of the nature of the business in which BH is engaged and
proposes to engage and PB's position and knowledge of its business. However, if
any of such periods or such area should be judged unreasonable in any
proceedings, then such period of time shall be reduced by elimination of such
portion thereof, or both, as are deemed unreasonable, so that this covenant may
be enforced in such area and during such period of time as is adjudged to be
reasonable.
IX. INDEMNIFICATION
Provided PB fulfills his obligations under this Agreement to BH, BH will
hold PB harmless from any loss, liability, cost, damage or expense which PB may
sustain, including reasonable attorneys' fees incurred by PB, as to any claims
by a third party, relating to the proper performance of his duties for BH, under
this
6
<PAGE>
Agreement. The foregoing shall not apply in the event any claims by a third
party arise and PB has been or is discharged for "Cause" and such discharge for
"Cause" is held, at any time, in arbitration or by a court of competent
jurisdiction, to be in violation of this Agreement. The contractual
indemnification provided for herein is in addition to and not in lieu of any
other indemnification protection afforded to PB from BH as an employee, officer
or director of BH.
X. SEVERABILITY
If any of the provisions of this Agreement, or the application of any term
or provision to any persons or circumstances is invalid or unenforceable to any
extent, then the remainder of this Agreement or the application of the term or
provision to persons or circumstances, other than those to which it is held
invalid or unenforceable, shall not be affected thereby and each term or
provision of this Agreement shall be valid and enforceable to the extent
permitted by law and a commercially reasonable construction shall be given to
the invalid or unenforceable part of this Agreement so as to most closely
express the intent of the parties as embodied herein.
XI. ASSIGNMENT AND SURVIVAL
The rights and obligations of the parties created while this Agreement is
in effect shall survive after the termination of this Agreement and shall inure
to the benefit of and are binding upon the successors and assigns of each party.
PB may not assign this Agreement or subcontract the work under this
Agreement. BH may assign this Agreement upon written notice to PB.
XII. WAIVER OF BREACH
The waiver by either party of any breach of this Agreement shall not
operate as or be construed to be a waiver of any subsequent breach. No course
of dealing, course of performance or usage of trade nor any delay on the part
of either party in exercising or enforcing their rights under this Agreement
shall operate as a waiver of such rights.
XIII. ENTIRE AGREEMENT & MODIFICATION
This Agreement contains the entire Agreement of the parties and supersedes
all prior Agreements or understandings pertaining to the subject matter hereof,
whether written or oral.
7
<PAGE>
BH at its sole discretion may change any portion of this Agreement,
including Attachment A, by providing 30 days prior written notice to the PB.
Unless such written notice otherwise states a date for the change to occur, the
change will become effective immediately on the 30th day after such notice is
given. Any change of this Agreement initiated by BH and not voluntarily accepted
by PB, shall be treated as a termination of PB for "Convenience" and without
"Cause" by BH in accordance with the termination provisions of this Agreement.
No other modification or amendment of this Agreement shall be effective
unless in a written instrument, executed by the parties.
XIV. GOVERNING LAW AND FORUM
Irrespective of the present or future residence of either of the parties
hereto, this Agreement shall in all respects be governed by the laws of the
State of New York, without giving effect to principles of conflicts of laws.
Without diminishing the applicability of the arbitration provision hereof, BH
and PB consent to the jurisdiction of any Federal or State court located in New
York, New York, with respect to any claim or controversy arising in connection
with this Agreement, and each waives any claim of inconvenient forum which such
party may have in connection with such jurisdiction.
XV. NOTICES
Any notices or other communication required or permitted hereunder shall be
sufficiently given when in writing and if given or sent: (i) in person, (ii)
overnight delivery with written confirmation of delivery to the address
designated below or (iii) facsimile transmission with an original mailed by
first class U. S. Mail, postage prepaid, addressed to the address designated
below:
Addresses:
To BH: Chairman of the Board, Box Hill Systems Corp.,
161 Avenue of the Americas, New York, N.Y. 10013
To PB: 15 Cornel Drive, Goldens Bridge, NY 10526
or in each case to such other address as shall have last been furnished by like
notice. Each notice or communication shall be deemed to have been given as of
the date so delivered or mailed or as the case may be; provided, however that
any notice sent by
8
<PAGE>
facsimile shall be deemed to have been given as of the date sent by facsimile,
if a copy of such notice is also mailed by first class mail on the date sent by
facsimile, if the date of mailing is not the same as the date of sending by
facsimile; then the date of mailing by first class mail shall be deemed to be
the date upon which notice given.
XVI. SEPARATE COUNSEL
PB acknowledges he has had the opportunity to retain and consult with
separate counsel of his own selection acting on his behalf in connection with
the negotiation, execution and consummation of this Agreement, and covenants
that he, alone shall be liable and responsible for (and shall not look to BH in
connection with) the fees and expenses of such separate counsel.
XVII. EFFECT
The parties agree to execute any and all such further instruments and
documents, and to take any and all such further actions which are reasonably
required to effectuate the express terms of this Agreement and the intents and
purposes hereof.
XVIII. BINDING AGREEMENT
This Agreement shall be binding upon and inure to the benefit of the
parties hereto and their heirs, executors, administrators, personal
representatives, successors and permitted assigns.
XIX. COUNTERPARTS
This Agreement may be executed simultaneously in one or more counterparts,
each of which shall be deemed an original, but all of which together shall
constitute one and the same instrument.
XX. NON-DISCLOSURE
PB shall keep confidential and shall not disclose the contents of this
Agreement, including, Attachment A to any other party, except to the extent that
such disclosure is necessary to enforce the provisions hereof.
PB ACKNOWLEDGES THAT HE HAS CAREFULLY READ THIS AGREEMENT AND UNDERSTANDS HIS
OBLIGATIONS UNDER THIS AGREEMENT.
BOX HILL SYSTEMS CORP. PHILIP BLACK
Signature: Signature:
Benjamin Monderer, Chairman of the Board
9
<PAGE>
ATTACHMENT A
COMPENSATION PLAN
PHILIP BLACK - CHIEF EXECUTIVE OFFICER
("CEO")
COMPENSATION
Annual Salary
$350,000.00 per calendar year paid in accordance with the regular pay
practices of BH.
Commissions and Bonus for Calendar Year 1999
Commissions shall be paid at the rate of 0.20% of revenue for calendar year
1999. A quarterly bonus will be paid based on 1.12% of each quarter's pre-tax
income. Net revenue and net pre-tax profits of BH are computed in accordance
with generally accepted accounting principles, consistently applied, for tax
purposes, excluding Officers' bonuses but including Officers' base salary,
including that of PB. Such bonus or payment thereof to PB as to net revenue or
net profits of PB is to be determined solely by the accountants of BH. In the
event PB disagrees with such determination, PB will notify BH within 15 days
after receipt of notification from BH of such determination of the accountants
for BH. All commissions and bonuses will be calculated based upon generally
accepted accounting principles consistently applied and shall be conclusive
absent fraud or manifest error. Commissions and bonus are to be paid pursuant to
the terms of the Agreement and the regular pay practices of BH.
However, if Box Hill engages in any mergers and/or acquisitions during 1999
which alter the revenues and/or profit goals of Box Hill, the commission package
set forth above will be subject to re-negotiation with the intention of offering
PB a package that is of equal or greater value to him taking into consideration
the financial impact of any such merger and/or acquisitions.
Compensation for Years after 1999
For each year subsequent to 1999 that PB remains employed under this
agreement, BH shall offer PB a package with potential, "on plan" total
compensation (salary plus incentive compensation) of at least
10
<PAGE>
$718,000.00
Other Expenses
An expense reimbursement account will be maintained by BH for PB, pursuant
to which, PB shall be reimbursed by BH, for all reasonable and customary out of
pocket expenses (including expenses for cellular telephone and beeper service,
actually incurred by PB, on behalf of BH, solely in the conduct of BH's
business, based upon full and complete itemized vouchers, submitted promptly by
PB in accordance with BH's policies and procedures.
Fringe Benefits
PB shall be entitled to those fringe benefits such as medical and dental
benefits, which are provided to all BH full time employees, as may be
established and changed from time to time by BH and as are established by the
employee benefits handbook published by BH. Holidays, sick days and personal
days applicable to PB shall be in accordance with the employee benefits handbook
published by BH. PB shall be entitled to paid vacation of 4 weeks for 1999 and 4
weeks in each calendar year thereafter. Vacation time will accrue in accordance
with the employee benefits handbook published by BH.
Death
Upon the occurrence of the death of PB, this Agreement shall be terminated
and shall be deemed terminated, as if PB had terminated for "Convenience" 90
days from the date of death. Compensation, which shall include base salary and
commissions as set forth in the Agreement, will be payable to the effective date
of termination pursuant to the terms of the Agreement.
Disability
For purposes of this Agreement, the term "Disability" shall mean the
failure or inability of PB for reasons of health, to perform his usual and
customary duties on behalf of the BH in the usual and customary manner for a
total of more than 90 consecutive business days (excluding Saturdays, Sundays
and Holidays, as
11
<PAGE>
specified below) out of any consecutive period of 365 days, including Saturdays,
Sundays and Holidays. The term "Holidays" shall include New Year's Day,
President's Birthday, Memorial Day, Independence Day, Labor Day, Thanksgiving
Day, Christmas Day, and any other weekday on which Federal and/or State banks
are closed in the State of New York. In such event, Disability shall be deemed
to have occurred on the 90th such business day that PB shall fail or be unable
to perform his usual and customary duties on behalf of the BH in the usual and
customary manner. Until the date upon which Disability shall have occurred, PB's
compensation and status as an employee under this Agreement shall continue. If
the parties are unable to agree with respect to any question with respect to
Disability, including, but not limited to, the following: (i) whether PB is
Disabled, (ii) the date upon which the Disability of PB commenced or (iii) the
date upon which either the Disability of PB terminated or the Disability
occurred, then such dispute shall be determined by arbitration in accordance
with this Agreement.
Upon an occurrence of Disability, this Agreement shall be terminated and
shall be deemed terminated, as if PB had terminated for "Convenience". Following
an occurrence of Disability, PB shall be entitled, on a one time basis, to 60%
of the base salary and commissions that he earned during the 12-month period
immediately prior to the occurrence of such Disability. Such amounts shall be
paid over a 12-month period in accordance the regular pay practices of BH.
BOX HILL SYSTEMS CORP. PHILIP BLACK
Signature: Signature:
Name: Benjamin Monderer, Chairman of the Board
12
<PAGE>
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the
incorporation of our report included in this Form 10-K, into the
Company's previously filed Form S-8 Registration Statement
(Commission File No. 333-35751) filed with the Securities and
Exchange Commission on September 16, 1997.
Arthur Andersen LLP
Philadelphia, Pennsylvania
March 30, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature
appears below hereby authorizes and constitutes Philip Black and Benjamin
Monderer, and each of them singly, his true and lawful attorneys-in-fact with
full power of substitution and resubstitution, for him and in his name, place
and stead, in any and all capacities (including his capacity as a director of
Box Hill Systems Corp.) to sign and file the Annual Report of Box Hill Systems
Corp. on Form 10-K, including any and all amendments, with all exhibits
thereto, and other documents in connection therewith with the Securities and
Exchange Commission, and he hereby ratifies and confirms all that said
attorneys-in-fact or any of them, or this or his substitutes, may lawfully do
or cause to be done by virtue hereof.
Signature Date
--------- ----
/s/ Benjamin Monderer March 4, 1999
- --------------------
Benjamin Monderer
/s/ Carol Turchin March 4, 1999
- --------------------------
Carol Turchin
/s/ Philip Black March 4, 1999
- --------------------------
Philip Black
/s/ Mark Mays March 12, 1999
- --------------------------
Mark A. Mays
/s/ Mischa Schwartz March 9, 1999
- --------------------------
Dr. Mischa Schwartz
/s/ Benjamin Brussell March 5, 1999
- --------------------------
Benjamin Brussell
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This Schedule contains summary financial information extracted
from the Financial statements contained in the body of the Form
10-K and is qualified in its entirety by reference to such Financial
statements.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 54,214
<SECURITIES> 3,500
<RECEIVABLES> 14,241
<ALLOWANCES> (640)
<INVENTORY> 8,091
<CURRENT-ASSETS> 82,347
<PP&E> 2,897
<DEPRECIATION> (1,566)
<TOTAL-ASSETS> 83,869
<CURRENT-LIABILITIES> 18,432
<BONDS> 0
0
0
<COMMON> 143
<OTHER-SE> 65,007
<TOTAL-LIABILITY-AND-EQUITY> 83,869
<SALES> 72,476
<TOTAL-REVENUES> 72,476
<CGS> 47,406
<TOTAL-COSTS> 64,660
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (1,924)
<INCOME-PRETAX> 9,740
<INCOME-TAX> 3,806
<INCOME-CONTINUING> 5,934
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 5,934
<EPS-PRIMARY> 0.42
<EPS-DILUTED> 0.39
</TABLE>
