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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE
QUARTERLY PERIOD ENDED JULY 31, 2000 OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE
TRANSITION PERIOD FROM __________ TO __________.
COMMISSION FILE NUMBER: 0-22703
MCK COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 06-1555163
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
117 KENDRICK STREET NEEDHAM, MASSACHUSETTS 02494
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (617) 454-6100
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 [ ]
As of August 31, 2000, there were 19,838,483 shares of registrant's Common
Stock outstanding.
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MCK Communications, Inc.
Table of Contents
PART I - FINANCIAL INFORMATION Page
Item 1. Financial Statements
Consolidated Balance Sheets at April 30, 2000
and July 31, 2000 3
Consolidated Statements of Operations for the
three months ended July 31, 1999 and 2000 4
Consolidated Statements of Cash Flows for the
three months ended July 31, 1999 and 2000 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures about Market Risk 13
PART II - OTHER INFORMATION 22
Item 1. Legal Proceedings 22
Item 6. Exhibits and Reports on Form 8-K 23
Signatures 24
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Part I. Financial Information
Item 1. Consolidated Financial Statements
MCK Communications, Inc.
Consolidated Balance Sheets
(In thousands)
April 30, July 31,
2000 2000
--------- --------
(Unaudited)
Assets
Current assets:
Cash and equivalents $ 55,844 $ 7,452
Marketable securities 19,879 51,886
Accounts receivable, net 5,018 7,350
Inventory 2,498 3,743
Prepaids and other current assets 1,297 2,052
--------- ---------
Total current assets 84,536 72,483
Fixed assets, net 2,306 2,968
Goodwill and other assets 352 24,297
--------- ---------
Total assets $ 87,194 $ 99,748
========= =========
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 4,782 $ 4,134
Accrued liabilities 328 855
Accrued compensation and benefits 621 981
Taxes payable 413 806
Deferred revenue 71 56
--------- ---------
Total current liabilities 6,215 6,832
Deferred taxes 33 33
Stockholders' equity:
Common stock, $.001 par value;
Authorized 40,000,000 shares
Issued and outstanding -
19,357,369 at April 30, 2000 and
19,832,049 at July 31, 2000 19 20
Additional paid-in capital 115,802 128,281
Accumulated deficit (29,213) (30,499)
Deferred compensation (4,624) (3,881)
Accumulated other comprehensive loss (345) (349)
Notes receivable from officers (693) (689)
--------- ---------
Total common stockholders' equity 80,946 92,883
--------- ---------
Total liabilities and stockholders'
equity $ 87,194 $ 99,748
========= =========
The accompanying notes are an integral part of these consolidated financial
statements.
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MCK Communications, Inc.
Consolidated Statements of Operations
(In thousands, except per share data)
Unaudited
Three Months Ended
July 31,
------------------------
1999 2000
---- ----
Revenues $ 4,523 $ 10,042
Cost of goods sold 1,691 3,812
-------- --------
Gross profit 2,832 6,230
Operating expenses:
Research and development (excluding amortization
of stock based compensation of $385 and
$223 at July 31, 1999 and 2000, respectively.) 964 2,007
Sales and marketing (excluding amortization of
stock based compensation of $431 and $338 at
July 31, 1999 and 2000, respectively.) 1,347 2,965
General and administrative (excluding amortization
of stock based compensation of $298 and $182 at
July 31, 1999 and 2000, respectively.) 494 956
Amortization of stock based compensation 1,114 743
Amortization of goodwill and other intangibles -- 1,333
-------- --------
Total operating expenses 3,919 8,003
-------- --------
Loss from operations (1,087) (1,774)
Other income (expense):
Interest expense (90) (8)
Interest income 24 966
Other expense, net (29) (5)
-------- --------
Total other income (expense) (95) 953
-------- --------
Loss before provision for income taxes and dividends
on redeemable preferred stock of subsidiary (1,182) (821)
Provision for income taxes -- 465
Dividends on redeemable preferred stock of subsidiary 50 --
-------- --------
Net loss (1,232) (1,286)
Dividends on redeemable preferred stock 551 --
-------- --------
Loss applicable to common stock $ (1,783) $ (1,286)
======== ========
Basic net loss per share $ (0.41) $ (0.07)
======== ========
Shares used in computing basic net loss per share 4,304 18,828
======== ========
Pro-forma basic net loss per share $ (0.13) $ (0.07)
======== ========
Shares used in computing pro-forma basic net loss
per share 12,976 18,828
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
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MCK Communications, Inc.
Consolidated Statements of Cash Flows
(In thousands)
Unaudited
Three Months Ended
July 31,
------------------
1999 2000
---- ----
Cash flows from operating activities:
Net loss $ (1,232) $ (1,286)
Depreciation 132 354
Amortization of goodwill and intangibles -- 1,333
Stock based compensation 1,114 743
Dividends accrued on subsidiary preferred stock 50 --
Changes in operating assets and liabilities:
Accounts receivable (243) (1,231)
Inventory 248 (446)
Prepaids and other current assets (80) 304
Other assets -- 65
Accounts payable 6 (1,068)
Accrued liabilities 326 (22)
Taxes payable -- 394
Accrued compensation and benefits (91) (1,250)
Deferred revenue 26 (15)
-------- --------
Net cash provided (used) in operating activities 256 (2,125)
Cash flows from investing activities:
Purchases of property and equipment (136) (722)
Acquisition of business, net of cash acquired -- (12,623)
Purchases of marketable securities -- (32,007)
-------- --------
Net cash used in investing activities (136) (45,352)
Cash flows from financing activities:
Net proceeds from issuance of preferred stock (4) --
Net proceeds from issuance of common stock -- (59)
Proceeds from option exercises -- 43
Increase (decrease) in short term borrowings 230 (866)
-------- --------
Net cash provided (used) in financing activities 226 (882)
Effect of exchange rate change on cash (35) (33)
-------- --------
Net increase (decrease) in cash and equivalents 311 (48,392)
Cash and equivalents, beginning of period 3,285 55,844
-------- --------
Cash and equivalents, end of period $ 3,596 $ 7,452
======== ========
Supplemental disclosures of cash flow information:
Cash paid for interest $ -- $ 8
Common shares issued in acquisition of DTIH -- 12,500
Dividends on non-subsidiary preferred 502 --
Sale of restricted stock 613 --
Dividends to Manz Development, Inc. 100 --
The accompanying notes are an integral part of these consolidated financial
statements.
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MCK Communications, Inc.
Notes to Consolidated Financial Statements
(Unaudited)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. BASIS OF PRESENTATION
The consolidated financial statements have been prepared by MCK Communications,
Inc., pursuant to the rules and regulations of the Securities and Exchange
Commission and include the accounts of MCK Communications, Inc., and its wholly
owned subsidiaries. Certain information and footnote disclosures, normally
included in financial statements prepared in accordance with generally accepted
accounting principals, have been condensed or omitted pursuant to such rules and
regulations. In the opinion of the Company, the financial statements reflect all
adjustments, consisting of normal recurring adjustments, necessary for a fair
presentation of the financial position at July 31, 2000 and the operating
results and cash flows for the three months ended July 31, 2000 and 1999. The
balance sheet at April 30, 2000 has been derived from audited financial
statements as of that date. These financial statements and notes should be read
in conjunction with the financial statements and notes thereto included in the
Company's Annual Report on Form 10-K as filed with the Securities and Exchange
Commission.
The preparation of the 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 revenue and expenses during the reporting
period. Actual results could differ from those estimates and would impact future
results of operations and cash flows.
The results of operations reported for the three months ended July 31, 2000 are
not necessarily indicative of the results to be achieved in future quarters or
the year ended April 30, 2001.
b. CASH AND EQUIVALENTS
Cash and equivalents are defined as highly liquid investments having an original
maturity of three months or less.
c. INVESTMENTS
The Company's investments consist primarily of commercial paper and money market
instruments with maturities of less than a year and are classified as
available-for-sale. Available-for-sale securities are stated at fair value,
with the unrealized losses reported in other comprehensive income. Unrealized
losses relating to those available-for-sale securities were $13,141 at July 31,
2000. Realized gains and losses and declines in value judged to be other-than
temporary on available-for-sale securities are included in investment income.
The cost of securities sold is based on the specific identification method.
Interest and dividends on securities classified as available-for-sale are
included in investment income.
d. REVENUE RECOGNITION
Revenues from product sales to customers are recognized upon shipment. We
routinely analyze and establish, as necessary, reserves at the time of shipment
for product returns and allowances and warranty costs, which amounts to date
have not been significant.
The Company recognizes service revenues as the service is provided. Maintenance
revenues are deferred and recognized ratably over the contract period. Service
and maintenance revenues have not been material.
e. COMPREHENSIVE INCOME (LOSS)
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During the year ended April 30, 1999, the Company adopted SFAS 130, "Reporting
Comprehensive Income", which establishes standards for the reporting and
presentation of comprehensive income and its components in the financial
statements. Comprehensive income includes all changes in equity during a period
except those resulting from investments by and distributions to owners. For the
three months ended July 31, 2000, MCK's comprehensive loss was $1.28 million,
compared to a comprehensive loss of $1.27 million for three months ended July
31, 1999. Other than the Company's net loss, there are no material components of
the reported comprehensive loss.
f. NET LOSS PER SHARE
Basic net loss per share is computed by dividing net loss by the weighted
average number of shares of common stock outstanding, with no consideration
given for any potentially dilutive securities.
The Company issued 3,400,000 shares of common stock and converted all of its
outstanding convertible preferred stock to common stock on October 22, 1999, the
date of the Company's initial public offering. The Company also issued an
additional 255,000 shares of common stock on November 22, 1999 to cover the
over-allotment. On April 7, 2000 the Company issued 1,250,000 shares of common
stock in a follow-on offering and on June 14, 2000 issued 364,601 shares of
common stock in connection with the acquisition of DTI Holdings, Inc. The net
loss per share calculations have been appropriately weighted to reflect these
activities, where necessary. No diluted loss per share information has been
presented in the accompanying consolidated statements of operations since
potential common shares from conversion of stock options and restricted stock
are antidilutive
Pro forma basic net loss per share for July 31, 1999 has been calculated
assuming the conversion of preferred stock into an equivalent number of common
shares as if the shares had converted at the later of the beginning of the 1999
fiscal year or on the dates of their issuance.
g. RECENT ACCOUNTING PRONOUNCEMENTS
In December 1999, the Securities and Exchange Commission issued SAB 101, Revenue
Recognition in Financial Statements, which provides guidance on the recognition,
presentation, and disclosure of revenue in financial statements filed with the
Commission. SAB 101 outlines the basic criteria that must be met to recognize
revenue and provides guidance for disclosures related to revenue recognition
policies. We have not assessed the impact, if any, of SAB 101 on our financial
results.
In June 1999, the Financial Accounting Standards Board (FASB) issued SFAS No.
137, Accounting for Derivative Instruments and Hedging Activities - Deferral of
the Effective Date of FASB Statement 133, which postponed the adoption date of
SFAS No. 133. As such, the Company is not required to adopt the statement until
fiscal 2002. Had the Company implemented SFAS No. 133 for the current reporting
period, there would have been no material effect on operational results.
NOTE 2. PUBLIC OFFERING OF SECURITIES
The Company completed its initial public offering of 3,400,000 shares of common
stock in October 1999, raising approximately $49.5 million, net of offering
expenses. MCK Communications, Inc. is listed on the NASDAQ National Market under
the symbol "MCKC".
On November 22, 1999, the underwriters of the initial public offering exercised
their over-allotment option and purchased an additional 255,000 shares of the
Company's common stock. The Company received an additional $3.8 million, net of
underwriting discounts and commissions, in this transaction. Additionally,
certain stockholders sold 255,000 shares of their stock in the Company. The
Company did not receive any proceeds on such sales by its stockholders.
On April 7, 2000, the Company completed a follow-on public offering of 1,250,000
shares of common stock, raising approximately $46.7 million, net of offering
expenses. Additionally, certain stockholders sold 1,500,000 shares of their
stock
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in the Company. The Company did not receive any proceeds on such sales by its
stockholders.
NOTE 3. INVENTORY
Inventory consisted of (in 000's):
April 30, July 31,
2000 2000
--------- -----------
(Unaudited)
Raw materials $ 898 $1,470
Work-in-process 1,309 1,232
Finished goods 291 1,041
------ ------
$2,498 $3,743
NOTE 4. ACQUISITION OF BUSINESS
On June 14, 2000, the Company acquired all of the outstanding stock of DTI
Holdings, Inc. ("DTIH"), its wholly owned subsidiary Digital Techniques, Inc
("DTI") and certain other assets for $12.6 million in cash, including
transaction costs and 364,601 shares of common stock and assumed stock options
with a fair market value of $12.5 million. The transaction will be accounted for
as a purchase in accordance with Accounting Principals Board ("APB") Opinion 16
- "Business Combinations" and APB 17 - "Intangible Assets". The Company engaged
an independent firm to determine the value of certain tangible and intangible
assets owned by DTIH for the purpose of allocating the total purchase price. The
Company has made a preliminary allocation of the purchase price and expects to
finalize such allocation in the next quarter. Goodwill and associated
intangibles resulting from the acquisition will be amortized over a period not
to exceed five years. During the period ended July 31, 2000, the Company
recorded a $694,000 in-process research and development charge to fully write
off the value associated with projects that were yet to be completed or released
from beta testing.
The consolidated results of operations for the three months ended July 31, 2000
include DTIH's results from June 14, 2000.
Assuming the acquisition of DTIH occurred at the beginning of the three month
periods ended July 31, 1999 and 2000, on a pro-forma basis, the company would
have reported revenues of $8.3 million and $11.4 million, net losses of $2.35
million and $4.28 million and basic net loss per share of $0.50 and $0.23 during
the 3 months ended July 31, 1999 and 2000, respectively. The unaudited pro-forma
financial information is presented for illustrative purposes and is not
necessarily indicative of the combined results of operations in future periods
or the results that actually would have been realized had MCK and DTIH been a
combined company during the specified periods.
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ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Certain statements in the "Management's Discussion and Analysis of Financial
Condition and Results of Operations" are forward-looking statements that involve
risks and uncertainties. Words such as "anticipates", "expects", "intends",
"plans", "believes", "seeks", "estimates" and similar expressions identify such
forward-looking statements. The forward-looking statements contained herein are
based on current expectations and entail various risks and uncertainties that
could cause actual results to differ materially from these expressed in such
forward-looking statements. Factors that might cause such a difference include,
among other things, those set forth under "Overview", "Liquidity and Capital
Resources" and "Risk Factors" included in this section and those appearing
elsewhere in this Form 10-Q. Readers are cautioned not to place undue reliance
on these forward-looking statements, which reflect management's analysis only as
of the date hereof. The Company assumes no obligation to update these
forward-looking statements to reflect actual results or changes in factors or
assumptions affecting forward-looking statements.
OVERVIEW
MCK Communications is a leading provider of products for corporate telephone
systems that enable corporations to extend the features and applications of
those systems, which are known as private branch exchanges or PBX's, from the
corporate office to remote branch offices and telecommuters over geographically
dispersed public and private data networks. PBX systems are the most commonly
used corporate telephone systems and deliver features such as three- or
four-digit internal dialing and call forwarding and applications such as
voicemail, automatic call distribution and interactive voice response. Our
EXTender products cost-effectively deliver a unified enterprise-wide voice
network by enabling the PBX to function as a corporate voice server that
transmits voice and PBX applications to remote locations over corporations'
existing data networks. In addition our products reduce the total cost of
ownership by utilizing corporations current investment in voice and data
equipment, and streamline network administration through the utilization of
industry standard network management techniques.
We market and distribute our products through an international network of
indirect resellers and equipment providers and, to a lesser extent, through
direct sales. We are headquartered in Needham, Massachusetts and have
development centers in Allen, Texas and Calgary, Canada. Our sales force and
marketing efforts are primarily directed at developing brand awareness and
supporting our indirect distribution channels.
On June 14, 2000, we acquired DTI Holdings, Inc ("DTIH") and its wholly owned
subsidiary Digital Techniques, Inc. ("DTI") and certain other assets for $12.6
million in cash, including transaction costs, 364,601 shares of common stock and
assumed stock options. DTI designs, manufactures, distributes and supports a
comprehensive suite of digital to analog recording gateways which complement the
Company's existing products. Based in Allen, Texas, DTI has approximately 50
employees and maintains a 20,000 square foot facility. Consistent with our
current manufacturing model, DTI's performs final assembly and test of its
recording gateway products at its facility and we plan to transition the
manufacturing operations for our single user products, which are currently
manufactured in Canada, to our Texas facility over the next two quarters.
Product revenues currently consist of sales of our remote voice access products
and, to a lesser degree, our digital-to-analog gateway products, installation
services and maintenance. For the foreseeable future, we anticipate that
substantially all of our revenues will be attributable to sales of these
products. We believe that the sales of our multi-user products and next
generation single-user products will represent a substantial and increasing
percentage of our revenues, while the sales of our existing single-user products
and digital-to-analog recording gateways may decline as a percentage of our
revenues. While MCK is developing future products, including remote voice access
products that operate over broadband networks, and is recruiting
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additional OEM and channel partners, there can be no assurance that we will be
successful in these efforts or that they will have a positive impact on our
revenues.
RESULTS OF OPERATIONS
The following table sets forth certain financial data for the periods indicated
as a percentage of revenues:
Three Months Ended
July 31,
------------------
1999 2000
---- ----
Revenues 100.0% 100.0%
Cost of goods sold 37.4% 38.0%
----- -----
Gross profit 62.6% 62.0%
Operating expenses:
Research and development 21.3% 20.0%
Sales and marketing 29.8% 29.5%
General and administrative 10.9% 9.5%
Amortization of stock based compensation 24.6% 7.4%
Amortization of goodwill and other intangibles -- 13.3%
----- -----
Total operating expenses 86.6% 79.7%
----- -----
Loss from operations (24.0)% (17.7)%
Other income (expense):
Interest expense (2.0)% (0.0)%
Interest income 0.1% 9.6%
Other (income) expense, net (0.1)% (0.0)%
----- -----
Total other (income) expense (2.1)% 9.5%
----- -----
Loss before provision for income taxes and
dividends on redeemable preferred stock of
subsidiary (26.1)% (8.2)%
===== =====
THREE MONTHS ENDED JULY 31, 2000 AND 1999
Revenues. Revenues increased from $4.5 million for the three months ended July
31, 1999 to $10.0 million for the three months ended July 31, 2000, an increase
of $5.5 million or 122%. This increase was primarily due to the increased sales
of our multi-user remote voice access products, which accounted for
approximately $5.3 million or 52% of revenues during the three months ended July
31, 2000, compared to $1.7 million or 37.6% of revenues in the three months
ended July 31, 1999. We expect revenues from our current single-user products
and recording gateways to decrease as a percentage of revenues as we grow sales
of our multi-user products and our next generation single-user products. We have
historically derived the majority of our revenues from a small number of
customers, most of whom resell our products to end users. Lucent Technologies, a
significant customer that has accounted for more than 40% of our revenues over
the past 2 years announced in March 2000 that it plans to divest its PBX unit
into a standalone business named Aviya. It is unclear what impact this
divestiture may have on our revenues in future quarters.
Cost of goods sold. Cost of goods sold includes the cost of finished product and
subassemblies purchased from contract manufacturers, overhead, and customer
service and support costs. Our cost of goods sold increased from $1.7 million
for the three months ended July 31, 1999 to $3.8 million for the three months
ended July 31, 2000, an increase of $2.1 million or 125.4%. This increase was
primarily related to the increase in volume of units shipped. Gross margin
decreased slightly from 62.6% for the three months ended July 31, 1999 to 62.0%
for the three months ended July 31,
<PAGE> 11
2000. The decrease in gross margin was primarily attributable to increased costs
of certain components such as flash memory, general pricing pressures in the
market and, to a lesser extent, start-up manufacturing costs associated with our
EXTender 3200 for IDSL and 24-port gateway products. We do not expect the trend
of decreasing margins to continue in future quarters as we expect higher margin
multi-user products and cost saving measures to offset rising component costs,
increased pricing pressures, and increased manufacturing overhead costs related
to new product introductions.
Research and development. Research and development expenses include salaries and
related personnel costs, purchased software and prototype expenses related to
the design, development, enhancement and testing of our products. Research and
development expenses increased from $1.0 million for the three months ended July
31, 1999 to $2.0 million for the three months ended July 31, 2000, an increase
of $1.0 million or 108.3%. This increase was due primarily to increases in
staffing, the addition of DTI's development team, the manufacturing of prototype
units for our 24-port gateway and, to a lesser extent, related overhead costs.
For the three months ended July 31, 1999 and 2000, research and development
expenses decreased as a percentage of revenues from 21.3% to 20.0% as a result
of increased revenues. Because we will continue to enhance existing products and
fund new product development initiatives, we expect research and development
expenses to increase both in real dollars and as a percentage of revenue in
future periods. We also expect to increase our expenditures in our product
validation laboratory to test the interoperability of our products with
corporate telephone systems and other products. This competency is becoming
increasingly critical to our business as we develop additional products that
function over data networks in conjunction with third-party data equipment.
Sales and marketing. Sales and marketing expenses consist primarily of salaries,
commissions and related personnel expenses for those engaged in the sales,
marketing and support of products as well as related trade show, promotional and
public relations expenses. Sales and marketing expenses increased from $1.3
million for the three months ended July 31, 1999 to $3.0 million for the three
months ended July 31, 2000, an increase of $1.6 million or 120%. This increase
was primarily due to increases in staffing of both sales and marketing
personnel, the addition of DTI's sales force, and, to a lesser extent, increased
marketing activities aimed at driving demand for our products. For the three
months ended July 31, 1999 and 2000, sales and marketing expenses decreased as a
percentage of revenues from 29.8% to 29.5%. We intend to pursue sales and
marketing campaigns aggressively and increase our sales force headcount and,
therefore, expect these expenses to increase in the future.
General and administrative. General and administrative expenses consist
primarily of salaries and related personnel expenses for executive, accounting
and administrative personnel, professional fees and other general corporate
expenses. General and administrative expenses increased from $494,000 for the
three months ended July 31, 1999 to $1.0 million for the three months ended July
31, 2000, an increase of $463,000 or 93.7%. This increase was primarily due to
increases in staffing in our accounting and human resources groups to support
our growth and reporting requirements as a public company, the addition of DTI
staff, and, to a lesser extent, professional service costs. For the three months
ended July 31, 1999 and 2000, general and administrative expenses decreased as a
percentage of revenues from 10.9% to 9.5%. As we add personnel and incur
additional costs related to the growth of our business, we expect that general
and administrative expenses will also increase.
Amortization of stock-based compensation. In connection with the grant of
certain stock options to employees prior to our initial public offering on
October 22, 1999, we recorded deferred compensation expense of $10.2 million. In
January 2000, deferred compensation was reduced by $531,000 in connection with
the cancellation of certain options. The amount recorded represents the
difference between the deemed fair value of the common stock for financial
reporting purposes and the exercise price of these options at the date of grant
or cancellation. Deferred compensation is presented as a reduction of
stockholders' equity and is amortized over the vesting period of the applicable
options, generally four years. we expensed $1.1 million and $743,000 of deferred
stock-based compensation in the three months ended July 31, 1999 and 2000,
respectively. The amortization of existing deferred stock-
<PAGE> 12
based compensation is expected to impact our reported results of operations
through the quarter ended July 2003.
Amortization of goodwill and other intangibles. In conjunction with the
acquisition of DTIH, we recorded goodwill and certain intangible assets
resulting from the excess of purchase price over the fair value of the tangible
assets acquired. Goodwill and intangibles will be amortized over a period not to
exceed 5 years and will impact our operating results through fiscal 2005. During
the three months ended July 31, 2000, we amortized $639,000 of goodwill and
wrote off $694,000 of in-process research and development costs.
Other income (expense). Other income (expense), consists primarily of interest
expense related to our subordinated debt, offset by interest income, and foreign
exchange gains or losses related to the effects of the Canadian/U.S. exchange
rate on inter-company transactions. Other income (expense), net improved from an
expense of $95,000 for the three months ended July 31, 1999 to income of
$953,000 for the three months ended July 31, 2000, an improvement of $1.0
million. Interest expense, offset by interest income, improved from an expense
of $66,000 for the three months ended July 31,1999 to income of $958,000 for the
three months ended July 31, 2000. This improvement was primarily related to
interest earned on invested cash and the repayment of our subordinated debt.
Foreign exchange losses for the three months ended July 31, 1999 were $29,000
compared to a loss of $5,000 for the three months ended July 31, 2000. The
reduction in the loss was primarily related to lower inter-company balances
which are exposed to exchange rates.
LIQUIDITY AND CAPITAL RESOURCES
As of July 31, 2000, our principal sources of liquidity consisted of cash and
equivalents of $7.5 million and short-term investments of $51.9 million, this
represents a decrease in cash and equivalents and short-term investments of
$16.4 million compared to April 30, 2000. We regularly invest excess funds in
short-term money market funds, commercial paper, and government and
non-government debt securities. These investments are designed to provide
current income to the Company without exposing the principal to significant
risk.
Net cash used in operations was $2.2 million for the three months ended July 31,
2000. Cash used by operations was primarily related to an increase in accounts
receivable of $1.2 million, a decrease in accounts payable of $1.1 million, a
decrease in accrued compensation of $1.3 million and was partially offset by net
income adjusted to exclude non cash stock based compensation charges and
depreciation and amortization of $1.1 million. Net cash used in investing
activities was $45.3 million. We used $32.0 million to purchase short-term
investments and $12.6 million in cash to purchase DTIH and certain other assets.
Net cash used in financing activities was $882,000 for the three months ended
July, 31, 2000. Cash used in financing activities was primarily related to a
reduction in DTI's short-term debt of $866,000.
We expect to devote substantial capital resources to continue our research and
development efforts, to hire and expand our sales, support, marketing and
product development organizations, to expand marketing programs and for other
general corporate activities. In addition, we may utilize cash resources to fund
acquisitions or investments in complementary businesses, technologies or
products. We believe that our current cash and equivalents, short-term
investments and cash generated from operations will be sufficient to meet our
anticipated cash requirements for working capital and capital expenditures for
at least the next 12 months.
YEAR 2000 COMPLIANCE
In prior periods, we discussed the nature and progress of our plans to become
Year 2000 ready. In late 1999, we completed our remediation and testing of
systems. As a result of those planning and implementation efforts, we
experienced no significant disruptions in mission critical information
technology and non-information technology systems and believes those systems
successfully responded to the Year 2000 date change. We expensed approximately
$100,000 during the year ended April 30, 2000 in connection with remediating our
systems. We are not aware of any material problems resulting from Year 2000
issues, either with our products, our internal
<PAGE> 13
systems, or the products and services of third parties. We will continue to
monitor our mission critical computer applications and those of our suppliers
and vendors throughout the year 2000 to ensure that any latent Year 2000 matters
that may arise are addressed promptly.
The majority of our products do not have time keeping capabilities and are
therefore, by default, Year 2000 compliant. Only our Branch Office EXTender 6000
and PBXgateway products have internal clocks, and we believe such product lines
are Year 2000 compliant. However, our products are generally integrated into
networks involving sophisticated hardware and software products provided by
other vendors. Each of our customers' solutions involves different combinations
of third-party products and we cannot evaluate whether all of the third-party
products are Year 2000 compliant. We have not experienced nor do we expect any
significant Year 2000 problems to arise with our products. We have generally
represented to our indirect channel partners and end users that our products are
Year 2000 compliant, and if that turns out to be untrue, these parties may make
claims against us that may result in litigation or contract terminations.
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Risk. The Company's cash equivalents and marketable securities
primarily consist of interest sensitive securities with weighted average
maturities of less than six months. A 100 basis point decrease in interest rates
would not result in a material change in the fair value of these investments due
mainly to the short term nature of these investments. However, a 100 basis point
decrease in interest rates would increase our net loss by approximately
$600,000.
Foreign Currency Exchange Rate Risk. We primarily sell our products in U.S.
dollars and therefore we are not generally exposed to foreign currency exchange
risk. However, our Canadian subsidiary sells products to Canadian customers that
it invoices in Canadian dollars. In the fiscal year ended April 30, 2000, this
revenue accounted for 11.5% of revenues. Transactions with our Canadian
subsidiary, whose functional currency is the Canadian dollar, present us with
foreign currency exchange risk. The principal transactions are buying and
selling of inventory. The intercompany balance is denominated in U.S. dollars
and changes in the foreign currency exchange rate result in foreign currency
gains and losses. Using the intercompany balance at July 31, 2000, a 10%
strengthening of the U.S. dollar against the Canadian dollar would result in a
foreign currency transaction loss of $100,000.
RISK FACTORS
WE DERIVE ALMOST ALL OF OUR REVENUES FROM A SMALL NUMBER OF CUSTOMERS AND OUR
REVENUES MAY DECLINE SIGNIFICANTLY IF ANY MAJOR CUSTOMER CANCELS OR DELAYS A
PURCHASE OF OUR PRODUCTS
We have historically derived the majority of our revenues from a small number of
customers, most of whom resell our products to end users. Our failure to
generate as much revenue as expected from these customers or the failure of
these customers, particularly Lucent, to purchase our products would seriously
harm our business. Furthermore, Lucent announced in March 2000 that it plans to
divest its PBX unit into a standalone business. It is unclear what impact this
may have on our relationship with Lucent or the new entity. For the fiscal year
ended April 30, 1999, Lucent accounted for 46.7% of our revenues, and our ten
largest customers, including Lucent, accounted for 78.7% of our revenues. For
the fiscal year ended April 30, 2000, Lucent accounted for 45.6% of our
revenues, and our 10 largest customers, including Lucent, accounted for 76.1% of
our revenues. None of these large customers is obligated to purchase additional
products or services. Accordingly, present and future customers may terminate
their purchasing arrangements with us or significantly reduce or delay their
orders. Any termination, change, reduction or delay in orders could seriously
harm our business, financial condition and results of operations. Accordingly,
unless and until we diversify and expand our customer base, our future success
will significantly depend upon the timing and size of future purchases by our
largest customers and, in particular:
<PAGE> 14
- the product requirements of these customers;
- the financial and operational success of these customers; and
- the success of the underlying products and services that our products
support.
The loss of any one of our major customers or the delay of significant orders
from such customers, even if only temporary, could reduce or delay our
recognition of revenues, harm our reputation in the industry and reduce our
ability to accurately predict cash flow, and, as a consequence, could seriously
harm our business, financial condition and results of operations.
OUR INABILITY TO DEVELOP AND MAINTAIN RELATIONSHIPS WITH KEY PBX VENDORS WOULD
HARM OUR ABILITY TO SUSTAIN AND GROW OUR BUSINESS
Our success will depend to a significant degree upon our relationships with
leading PBX vendors and their channel distribution partners. The systems sold by
these vendors account for approximately 65% of the U.S. market for corporate PBX
equipment sales, and approximately 99% of our revenues for the fiscal year ended
April 30, 2000 were attributable to products which interoperate with corporate
telephone systems offered by these vendors. We may not have access in the future
to the proprietary protocols for the major corporate telephone systems marketed
by those vendors, which access may be essential to ensure the continued
interoperability of our products. Moreover, we may not be able to develop
products that interoperate with the corporate telephone systems offered by other
vendors. Additionally, the standards for telephony equipment and data networks
are evolving and our products may not be compatible with any new technology
standards that may emerge. If we are unable to provide our customers with
interoperable solutions, they may make purchases from vendors who provide the
requisite product interoperability. This could seriously harm our business,
financial condition and results of operations.
In addition, we currently have varying distribution, marketing and development
arrangements with the PBX vendors noted above. These relationships are not
exclusive and there is no assurance that we will continue to enjoy the support
and cooperation that we have historically experienced from these parties or
their distribution channels. Moreover, it is possible that the PBX vendors may
seek to offer broader product lines and solutions that are competitive with our
products.
UNLESS WE ARE ABLE TO KEEP PACE WITH THE RAPIDLY CHANGING PRODUCT REQUIREMENTS
OF OUR CUSTOMERS, WE WILL NOT BE ABLE TO SUSTAIN OR GROW OUR BUSINESS
The telecommunications market is characterized by rapid technological advances,
evolving industry standards, changes in end-user requirements, frequent new
product introductions and evolving offerings by telecommunications service
providers. We believe our future success will largely depend on our ability to
anticipate or adapt to such changes and to offer, on a timely basis, products
that meet customer demands. Our customers could purchase competitive products
from other suppliers if we fail to produce technologically competitive products
in a cost-effective manner or on a timely basis. This may cause us to be unable
to sustain or grow our business.
INTENSE COMPETITION IN THE MARKET FOR REMOTE VOICE SOLUTIONS COULD PREVENT US
FROM INCREASING OR SUSTAINING REVENUE AND PREVENT US FROM ACHIEVING OR
SUSTAINING PROFITABILITY
The market for remote voice solutions is highly competitive. Our inability to
compete effectively in this market would materially adversely affect our
revenues and future profitability. Many of our current and potential competitors
have significantly greater sales and marketing, technical, manufacturing,
financial and other resources, more established distribution channels and
stronger relationships with service providers. For instance, in June 1999 Nortel
Networks announced its intention to develop new products which will compete
directly with our products. Moreover, our competitors may foresee the course of
market developments more accurately than we do and could in the future develop
new technologies that compete with our products or even render our products
obsolete. Realizing and maintaining technological advantages over our
competitors will require a continued high level of
<PAGE> 15
investment in research and development, sales and marketing and customer
support. Due to the opportunities in and the rapidly evolving nature of the
market in which we compete, additional competitors with significant market
presence and financial resources, including large communications equipment
manufacturers, may enter our market, thereby further intensifying competition.
We may not have sufficient resources to continue to make the investments or
achieve the technological advances necessary to compete successfully with
existing competitors or new competitors.
Increased competition is likely to result in price reductions, reduced gross
margins, longer sales cycles and loss of market share, any of which would
seriously harm our business and results of operations. We may not be able to
compete successfully against current or future competitors and these competitive
pressures may seriously harm our business.
FUTURE CONSOLIDATION IN THE COMMUNICATIONS EQUIPMENT INDUSTRY MAY INCREASE
COMPETITION THAT COULD HARM OUR BUSINESS
The markets in which we compete are characterized by increasing consolidation
both within the communications sector and by companies combining or acquiring
communications assets. This consolidation creates uncertainty as to the nature
of our future competition. For instance, a relatively small competitor which is
acquired by a large telecommunications company would likely have access to
greater resources than us and would accordingly be a greater competitive threat.
We may not be able to compete successfully in an increasingly consolidated
industry. Increased competition and consolidation in our industry could require
that we reduce the prices of our products and may result in our loss of market
share, which would materially adversely affect our business, financial condition
and results of operations. Additionally, because we are now, and may in the
future be, dependent on strategic relationships with third parties in our
industry, such as Lucent, any consolidation involving these parties could reduce
the demand for our products and otherwise harm our business prospects.
FLUCTUATIONS IN OUR QUARTERLY RESULTS COULD CAUSE THE MARKET PRICE OF OUR COMMON
STOCK TO FALL
Our quarterly operating results have varied in the past and are likely to vary
in the future. For example, over the last thirteen fiscal quarters, our net
results of operations have ranged from a net loss of $443,000 to a net loss of
$2.0 million. It is possible that our revenues and operating results may be
below the expectations of securities analysts and investors in future quarters.
If we fail to meet or surpass the expectations of securities analysts or
investors, the market price of our common stock will most likely fall. A number
of factors could cause our quarterly results to fluctuate, including, but not
limited to:
- the timing and amount of, or cancellation or rescheduling of, orders
for our products, particularly large orders from our key customers;
- our ability to develop, introduce, ship and support new products and
product enhancements, and manage product transitions;
- new product introductions and announcements, and reductions in the
prices of products offered by our competitors;
- our ability to sustain our technology relationships, particularly with
the major PBX manufacturers and service providers;
- availability and changes in the prices of components provided by third
parties;
- our ability to attain and maintain production volumes and quality
levels for our products;
- the mix of products sold and the mix of distribution channels through
which they are sold;
- fluctuations in demand for our products;
<PAGE> 16
- costs relating to possible acquisitions and integration of
technologies or businesses;
- telecommunications market conditions and economic conditions
generally;
- our ability to hire, train, integrate and retain new personnel; and
- changes in the level of our operating expenses.
Given that any one or more of these or other factors could have an adverse
effect on our business, the prediction of future quarterly results is difficult
and uncertain. In addition, some of our operating expenses are relatively fixed
in advance of any particular quarter. As a result, we may not be able to reduce
our operating costs in response to unanticipated reductions in our revenues or
the demand for our products.
OUR DEPENDENCE ON INDEPENDENT MANUFACTURERS AND SUPPLIERS COULD RESULT IN
PRODUCT DELIVERY DELAYS
We currently use four independent manufacturers, Celestica, Electronic
Manufacturing Group, Mack Technologies, and OEM Worldwide to manufacture all of
our products. Our reliance on independent manufacturers involves a number of
risks, including the absence of adequate capacity, the unavailability of or
interruptions in access to necessary manufacturing processes and reduced control
over delivery schedules. If our manufacturers are unable or unwilling to
continue manufacturing our products and components in required volumes, we will
have to identify acceptable alternative manufacturers, which could take in
excess of six months. Furthermore, the use of a new manufacturer may cause
significant interruptions in supply if the new manufacturer has difficulty
manufacturing products to our specifications. Further, the introduction of a new
manufacturer may increase the variance in the quality of our products. In
addition, we rely upon third-party suppliers of specialty components and
intellectual property used in our products. It is possible that a component
needed to complete the manufacture of our products may not be available to us at
acceptable prices or on a timely basis, if at all. For example, the demand for
flash memory chips is particularly strong and may lead to shortages for these
components of our products. Inadequate supplies of components, or the loss of
intellectual property rights, could affect our ability to deliver products to
our customers. Any significant interruption in the supply of our products would
result in the reduction of product sales to customers, which in turn could
permanently harm our reputation in the industry.
OUR ABILITY TO SUSTAIN OR GROW OUR BUSINESS MAY BE HARMED IF WE ARE UNABLE TO
PROVIDE ADEQUATE CUSTOMER SUPPORT
Our ability to continue to grow and to retain current and future customers
depends in part upon the quality of our customer support operations. We have
entered into an arrangement with a third-party customer support firm to provide
some of our customer support functions. Failure to offer adequate customer
support, either directly or through third parties, or failure to properly
integrate third-party services into our customer support framework could
materially and adversely affect our reputation and cause demand for our products
to decline.
IF OUR PRODUCTS ARE NOT ACCEPTED BY THE MARKET, OUR REVENUES WILL DECREASE
Market acceptance of our products is critical to our future success. Factors
that may affect the market acceptance of our products include:
- continued market acceptance of PBX technology;
- the performance, price and total cost of ownership of our products;
- the availability and price of competing products and technologies; and
- the efforts and success of our indirect distribution channels.
Many of these factors are beyond our control. We may experience failure or
delays in market acceptance of our products. Failure of our existing or future
products to
<PAGE> 17
maintain and achieve meaningful levels of market acceptance would reduce the
amount of revenue we receive from the sale of our products.
BECAUSE SUBSTANTIALLY ALL OF OUR REVENUES ARE DERIVED FROM SALES OF A SMALL
NUMBER OF PRODUCTS, OUR FUTURE OPERATING RESULTS WILL BE DEPENDENT ON SALES OF
THESE PRODUCTS
We currently derive substantially all of our revenues from our product family of
remote voice access equipment, and we expect that this concentration will
continue in the foreseeable future. The market may not continue to demand our
products, and we may not be successful in marketing any new or enhanced
products. Any reduction in the demand for our products or our failure to
successfully develop or market new or enhanced products could reduce the amount
of revenue we receive from the sale of our products and cause the price of our
common stock to decline. In addition, we expect our multi-user products, next
generation single user products and our recently announced gateway products will
account for a substantial portion of our revenues in the foreseeable future.
Factors that could affect sales of our products include:
- the demand for remote access voice solutions;
- the successful development, introduction and market acceptance of new
and enhanced products that address customer requirements;
- product introductions or announcements by our competitors;
- price competition in our industry; and
- technological change.
IF WE FAIL TO DEVELOP AND EXPAND OUR INDIRECT DISTRIBUTION CHANNELS, OUR
BUSINESS COULD SUFFER
Our product distribution strategy focuses primarily on continuing to develop and
expand our indirect distribution channels, develop and maintain our
relationships with large PBX vendors, resellers and distributors,
telecommunications service providers and application service providers, and
expand our field sales organization. If we fail to develop and cultivate
relationships with significant indirect distribution channels, or if these
distribution channels are not successful in their sales efforts, our product
sales may decrease and our operating results may suffer. Many of our indirect
distribution channels also sell products that compete with our products, and
none of our strategic or reseller arrangements are exclusive. In addition, our
operating results will likely fluctuate significantly depending on the timing
and amount of orders from our indirect distribution channels. Our indirect
distribution channels may not market our products effectively or may cease to
devote the resources necessary to provide us with effective sales, marketing and
technical support.
In order to support and develop leads for our indirect distribution
channels, we plan to significantly expand our field sales staff. This internal
expansion may not be successfully completed. In addition, the cost of this
expansion may exceed the revenues generated and our expanded sales and support
staff may not be able to compete successfully against the significantly more
extensive and well-funded sales and marketing operations of many of our current
or potential competitors. Our inability to effectively develop and expand our
distribution channels or manage the expansion of our sales and support staff
would adversely affect our ability to grow and increase revenues.
OUR STOCK PRICE HAS BEEN, AND MAY CONTINUE TO BE, VOLATILE AND YOU MAY NOT BE
ABLE TO RESELL SHARES AT OR ABOVE YOUR PURCHASE PRICE
The trading price of our common stock has been, and may continue to be, subject
to wide fluctuations in response to factors such as:
- changes in general market conditions;
- actual or anticipated variations in quarterly operating results;
<PAGE> 18
- announcements of technological innovations;
- general technology or economic trends;
- revenues and operating results failing to meet or surpass the
expectations of securities analysts or investors in any quarter;
- changes in financial estimates by securities analysts;
- announcements of significant acquisitions, strategic partnerships,
joint ventures or capital commitments by us or our competitors;
- additions or departures of key personnel;
- the demand for our common stock;
- the number of market makers for our common stock;
- sales of a large number of shares of our common stock in the public
market or the perception that such sales could occur and;
- other events or factors, many of which are beyond our control.
In addition, the stock market in general, and the Nasdaq National Market and
technology companies in particular, have experienced extreme price and volume
fluctuations that have often been unrelated or disproportionate to the operating
performance of such companies. These broad market and industry factors may
materially adversely affect the market price of our common stock, regardless of
our actual operating performance. In the past, following periods of volatility
in the market price of a company's securities, securities class-action
litigation has often been instituted against such companies. Such litigation, if
instituted, could result in substantial costs and a diversion of management's
attention and resources, which would reduce the amount of resources and
management time focused on growing our business and improving operating results.
SALES TO CUSTOMERS BASED OUTSIDE THE UNITED STATES HAVE HISTORICALLY ACCOUNTED
FOR A SIGNIFICANT PORTION OF OUR REVENUES, WHICH EXPOSES US TO RISKS INHERENT IN
INTERNATIONAL OPERATIONS
International sales represented 15.3% of our revenues for the fiscal year ended
April 30, 2000, and 18.3% of our revenues for the year ended April 30, 1999.
While we expect sales to international markets to increase as a percentage of
revenues in the future. International sales are subject to a number of risks,
including:
- changes in foreign government regulations and communications
standards;
- export license requirements;
- currency fluctuations, tariffs and taxes;
- other trade barriers;
- difficulty in collecting accounts receivable;
- difficulty in managing foreign operations; and
- political and economic instability.
If the relative value of the U.S. dollar in comparison to the currency of our
foreign customers should increase, the resulting effective price increase of our
products to these foreign customers could result in decreased sales. In
addition, to the extent that general economic downturns impact our customers,
the ability of these customers to purchase our products could be adversely
affected. Payment cycles for international customers are typically longer than
those for customers in the United States. In addition, the foreign markets for
our products may develop more slowly than currently anticipated.
<PAGE> 19
We anticipate that our non-Canadian, foreign sales will generally be invoiced in
U.S. dollars, and we do not currently plan to engage in foreign currency hedging
transactions. As we expand our international operations, however, we may allow
payment in foreign currencies, and exposure to losses in foreign currency
transactions may increase. We may choose to limit any currency exposure through
the purchase of forward foreign exchange contracts or other hedging strategies.
Our future currency hedging strategies may not be successful.
OUR LIMITED ABILITY TO PROTECT OUR INTELLECTUAL PROPERTY MAY ADVERSELY AFFECT
OUR ABILITY TO COMPETE
Our success and ability to compete is dependent in part upon our proprietary
technology. Any infringement of our proprietary rights could result in
significant litigation costs, and any failure to adequately protect our
proprietary rights could result in our competitors offering similar products,
potentially resulting in loss of a competitive advantage and decreased revenues.
We rely on a combination of copyright, trademark, trade secret and other
intellectual property laws, as well as confidentiality agreements and licensing
arrangements, to establish and protect our proprietary rights. We presently have
no patents. Despite our efforts to protect our proprietary rights, existing
copyright, trademark and trade secret laws afford only limited protection. In
addition, the laws of some foreign countries do not protect our proprietary
rights to the same extent as do the laws of the United States. Attempts may be
made to copy or reverse engineer aspects of our products or to obtain and use
information that we regard as proprietary. Accordingly, we may not be able to
protect our proprietary rights against unauthorized third-party copying or use.
Furthermore, policing the unauthorized use of our products is difficult. Some of
our contractual arrangements provide third parties with access to our source
code and other intellectual property upon the occurrence of specified events.
Such access could enable these third parties to use our intellectual property
and source code to develop and manufacture competing products, which would
adversely affect our performance and ability to compete. Litigation may be
necessary in the future to enforce our intellectual property rights, to protect
our trade secrets or to determine the validity and scope of the proprietary
rights of others. Such litigation could result in substantial costs and
diversion of resources and could seriously harm our future operating results.
CLAIMS ALLEGING INFRINGEMENT OF A THIRD PARTY'S INTELLECTUAL PROPERTY COULD
RESULT IN SIGNIFICANT EXPENSE TO US AND RESULT IN OUR LOSS OF SIGNIFICANT RIGHTS
The telecommunications industry is characterized by the existence of a large
number of patents and frequent litigation based on allegations of patent
infringement. From time to time, third parties may assert patent, copyright,
trademark and other intellectual property rights to technologies that are
important to our business, and this risk may increase as the number of entrants
in our market increases and the functionality of our products is enhanced and
overlaps with the products of other companies. Any claims against us or any
purchaser or user of our products asserting that our products infringe or may
infringe proprietary rights of third parties, if determined adversely to us,
could have a material adverse effect on our business, financial condition or
results of operations. Any claims, with or without merit, could be time
consuming, result in costly litigation, divert the efforts of our technical and
management personnel, cause product shipment delays, disrupt our relationships
with our customers or require us to enter into royalty or licensing agreements,
any of which could have a material adverse effect upon our operating results.
Such royalty or licensing agreements, if required, may not be available on terms
acceptable to us, if at all. Legal action claiming patent infringement may be
commenced against us and we may not prevail in such litigation given the complex
technical issues and inherent uncertainties in patent litigation. In the event a
claim against us is successful and we cannot obtain a license to the relevant
technology on acceptable terms, license a substitute technology or redesign our
products to avoid infringement, our business, financial condition and results of
operations would be materially adversely affected.
IF OUR PRODUCTS CONTAIN DEFECTS, WE MAY BE SUBJECT TO SIGNIFICANT LIABILITY
CLAIMS FROM OUR CUSTOMERS AND THE END USERS OF OUR PRODUCTS AND INCUR
SIGNIFICANT UNEXPECTED EXPENSES AND LOST SALES
<PAGE> 20
Our products have in the past contained, and may in the future contain,
undetected or unresolved errors when first introduced or as new versions are
released. Despite extensive testing, errors, defects or failures may be found in
our current or future products or enhancements after commencement of commercial
shipments. If this happens, we may experience delay in or loss of market
acceptance and sales, certain product returns, diversion of development
resources, injury to our reputation or increased service and warranty costs, any
of which could seriously harm our business, financial condition and results of
operations. For example, minor software defects in our EXTender 3000E product
caused us to cease shipments of that product for approximately six weeks to
enable us to correct the defects. Moreover, because our products are designed to
provide critical communications services, we may receive significant liability
claims. Our agreements with customers typically contain provisions intended to
limit our exposure to liability claims. These limitations may not, however,
preclude all potential claims resulting from a defect in one of our products.
Although we maintain product liability insurance covering damages arising from
the implementation and use of our products, the terms of our insurance limit the
amount and types of damages that are covered and may not cover any claims sought
against us. Liability claims could require us to spend significant time and
money in litigation or to pay significant damages. As a result, any such claims,
whether or not successful, could seriously damage our reputation and our
business.
WE MAY HAVE DIFFICULTY IDENTIFYING THE SOURCE OF THE PROBLEM WHEN THERE IS A
PROBLEM IN A NETWORK WHICH MAY ADVERSELY AFFECT THE MARKET ACCEPTANCE OF OUR
PRODUCTS
Our products must successfully integrate with products from other vendors, such
as traditional telephone systems. As a result, when problems occur in a network,
it may be difficult to identify the source of the problem. The occurrence of
hardware and software errors, whether caused by our products or another vendor's
products, may result in the delay or loss of market acceptance of our products
and any necessary revisions may force us to incur significant expenses. The
occurrence of some of these types of problems may seriously harm our business,
financial condition and results of operations.
WE CONTINUE TO SIGNIFICANTLY EXPAND OUR OPERATIONS AND OUR FAILURE TO MANAGE
GROWTH COULD HARM OUR BUSINESS AND ADVERSELY AFFECT OUR RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
We have significantly expanded our operations, including the number of our
employees, the breadth of our product offerings and the geographic scope of our
activities. At July 31, 2000, we employed 189 employees, and we expect the
number of our employees to increase significantly in the future. Further
significant expansion will likely be necessary to address potential growth in
our customer base and market opportunities. In addition, our senior management
team has been with us for less than three years. Any failure to manage growth
effectively could harm our business and adversely affect our financial condition
and operating results. We cannot assure you that we will be able to do any of
the following activities, which we believe are essential to successfully manage
the anticipated growth of our operations:
- improve our existing and implement new operations, financial and
management information controls, reporting systems and procedures;
- hire, train and manage additional qualified personnel;
- expand and upgrade our core technologies; and
- effectively manage multiple relationships with our customers,
suppliers and other third parties.
DIFFICULTIES AND FINANCIAL BURDENS ASSOCIATED WITH ACQUISITIONS COULD HARM OUR
BUSINESS AND FINANCIAL RESULTS
On June 14, 2000, we acquired all of the outstanding stock of DTI Holdings, Inc.
and its wholly owned subsidiary Digital Techniques, Inc. Our product range and
customer base have increased in the recent past due in part to this acquisition.
This acquisition provided us with technologies to expand our current line of
remote voice access products. There can be no assurance that the integration of
all of the
<PAGE> 21
acquired technologies will be successful or will not result in unforeseen
difficulties which may absorb significant management attention.
In the future, we may acquire additional businesses or product lines. The
recently completed acquisition, or any future acquisition, may not produce the
revenue, earnings or business synergies that we anticipated, and an acquired
product, service or technology might not perform as expected. Prior to
completing an acquisition, however, it is difficult to determine if such
benefits can actually be realized. The process of integrating acquired companies
into our business may also result in unforeseen difficulties. Unforeseen
operating difficulties may absorb significant management attention, which we
might otherwise devote to our existing business. Also, the process may require
significant financial resources that we might otherwise allocate to other
activities, including the ongoing development or expansion of our existing
operations.
If we pursue a future acquisition, our management could spend a significant
amount of time and effort identifying and completing the acquisition. To pay for
a future acquisition, we might use capital stock or cash. Alternatively, we
might borrow money from a bank or other lender. If we use capital stock, our
stockholders would experience dilution of their ownership interests. If we use
cash or debt financing, our financial liquidity will be reduced.
IF WE LOSE KEY PERSONNEL, WE MAY NOT BE ABLE TO SUCCESSFULLY OPERATE OUR
BUSINESS
Our success depends to a significant degree upon the continued contributions of
our senior sales, engineering and management personnel, many of whom perform
important management functions and would be difficult to replace. Specifically,
we believe that our future success is highly dependent on Steven J. Benson and
other senior management personnel. Within the last year, we have introduced
several new products, and we have additional new products currently in
pre-release testing. The loss of the services of any key personnel, particularly
senior management and engineers, could seriously harm our business, financial
condition and results of operations, including our success in selling our
recently introduced products and introducing new products.
IF WE ARE UNABLE TO RETAIN AND HIRE ADDITIONAL QUALIFIED PERSONNEL AS NECESSARY,
WE MAY NOT BE ABLE TO SUCCESSFULLY ACHIEVE OUR OBJECTIVES
We have experienced growth in revenues and expansion of our operations, which
has placed significant demands on our management, engineering staff and
facilities. Continued growth will also require us to hire more engineering,
sales and administrative personnel. We may not be able to attract and retain the
necessary personnel to accomplish our business objectives and we may experience
constraints that will adversely affect our ability to satisfy customer demand in
a timely fashion or to support our customers and operations. We have at times
experienced, and continue to experience, difficulty in recruiting qualified
personnel. Recruiting qualified personnel is an intensely competitive and
time-consuming process. New sales personnel and marketing personnel will require
training and take time to achieve full productivity. In addition, the design and
installation of telephony solutions can be complex. Accordingly, we need highly
trained professional services and customer support personnel. We cannot be
certain that we will successfully attract and retain additional qualified
personnel. In addition, our key person life insurance policy, covering some of
our key employees, may be insufficient to cover the costs associated with the
loss of one of these employees.
IF WE OR OUR KEY SUPPLIERS OR CUSTOMERS FAIL TO BE YEAR 2000 COMPLIANT, OUR
BUSINESS MAY BE SEVERELY DISRUPTED AND OUR RESULTS OF OPERATIONS MAY BE
MATERIALLY ADVERSELY AFFECTED
The Year 2000 problem creates a risk for us. Although most of our products do
not incorporate internal clocks, if our remaining products or our internal
computer systems do not correctly recognize date information, there could be an
adverse impact on our operations. The risk exists primarily in four areas:
- potential warranty or other claims from our customers, which may
result in significant expense to us;
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- failures of systems we use to run our business, which could disrupt
our business operations;
- failures of systems used by our suppliers and contract manufacturers,
which could delay or affect the quality of our products;
- customers may delay purchasing decisions until the impact of Year 2000
is more clearly understood, which could negatively impact our
revenues; and
- the potential for failures of our products, particularly our central
office-based systems, due to Year 2000 problems associated with
products manufactured by other equipment vendors used in conjunction
with our products, which may require that we incur significant
unexpected expenses.
We continue to evaluate our exposure in all of these areas.
We have conducted a comprehensive inventory and evaluation of the information
systems used to run our business and have upgraded or replaced systems which
were identified as non-compliant. The cost of remediation for the Year 2000
non-compliance issues identified were not material to our operating results.
We continue to work with our critical suppliers and contract manufacturers to
ensure that their operations and the products and services they provide are Year
2000 compliant. Where practicable, we will attempt to mitigate our risks with
respect to the failure of our suppliers and contract manufacturers to be
prepared for any Year 2000 problems. However, failures remain a possibility and
could have a material adverse effect on our business, financial condition or
results of operations. For these reasons, the impact of customer claims could
have a material adverse effect on our business, financial condition or results
of operations.
CONTROL BY EXISTING STOCKHOLDERS MAY LIMIT YOUR ABILITY TO INFLUENCE THE OUTCOME
OF DIRECTOR ELECTIONS AND OTHER MATTERS REQUIRING STOCKHOLDER APPROVAL
Our executive officers, directors and principal stockholders and their
affiliates own a significant percentage of the outstanding shares of common
stock. These stockholders, if acting together, would be able to significantly
influence all matters requiring approval by our stockholders, including the
election of directors and the approval of mergers or other business combination
transactions. This concentration of ownership could have the effect of delaying
or preventing a change in our control or otherwise discouraging a potential
acquiror from attempting to obtain control of us, which in turn could have a
material adverse effect on the market price of the common stock or prevent our
stockholders from realizing a premium over the market prices for their shares of
common stock.
PROVISIONS OF DELAWARE LAW AND OF OUR CHARTER AND BY-LAWS MAY MAKE A TAKEOVER
MORE DIFFICULT
Provisions in our certificate of incorporation and by-laws and in Delaware
corporate law may make it difficult and expensive for a third party to pursue a
tender offer, change in control or takeover attempt that is opposed by our
management. Public stockholders who might desire to participate in such a
transaction may not have an opportunity to do so, and the ability of public
stockholders to change our management could be substantially impeded by these
anti-takeover provisions. For example, we have a staggered board of directors
and the right under our charter documents to issue preferred stock without
further stockholder approval, which provisions could adversely affect the
holders of our common stock.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On May 3, 2000, Joan Lockhart, the Company's former Vice President of Marketing,
filed a complaint in Massachusetts State Court against the Company (the
"Complaint"). In the Complaint, entitled Joan Lockhart v. MCK Communications,
Inc., (Middlesex Superior Court), Ms. Lockhart asserts a claim for breach of
contract against the Company based on her allegations that the Company failed to
comply with
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the terms of her employment and certain restricted stock and stock option
agreements executed by and between the Company and Ms. Lockhart. Ms. Lockhart
seeks certain damages of approximately $30,000 in severance pay as well as
declaratory and injunctive relief, including the right to purchase 33,309 shares
of restricted stock and exercise certain stock options. On June 5, 2000, the
Company filed its answer denying the material allegations of Ms. Lockhart's
complaint. We are unable at this time to estimate the probability of a favorable
or unfavorable outcome or to estimate the amount of any losses in the event of
an unfavorable outcome.
ITEM 6. EXHIBITS AND REPORTS ON Form 8-K
(a) Exhibits
Exhibit 27.1 - Financial Data Schedule
(b) Reports on Form 8-K
On August 28, 2000 we filed an amendment to Form 8-K which was
filed to report the acquisition of DTIH on June 14, 2000. The amendment includes
historical financial information for DTIH as required.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Dated: September 14, 2000
MCK COMMUNICATIONS, INC.
/s/ Steven J. Benson
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Steven J. Benson
President and CEO
/s/ Paul K. Zurlo
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Paul K. Zurlo
Chief Financial Officer
