<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1995
COMMISSION FILE NUMBER: 0-4384
MICRODYNE CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MARYLAND 52-0856493
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
3601 EISENHOWER AVENUE, ALEXANDRIA, VA 22304
(Address of principal executive office) (Zip Code)
(703) 739-0500
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or 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 the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date:
<TABLE>
<CAPTION>
CLASS OUTSTANDING AT JANUARY 31, 1996
---------------------------- -------------------------------
<S> <C>
Common stock, $.10 par value 12,805,290
</TABLE>
Page 1 of 18 pages
Exhibit Index appears on page 11
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MICRODYNE CORPORATION
INDEX
<TABLE>
<CAPTION>
PAGE NUMBER
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Statements of Earnings
Quarters ended December 31, 1995
and December 31, 1994 3
Condensed Balance Sheets
December 31, 1995 and October 1, 1995 4
Statements of Cash Flows
Quarters ended December 31, 1995
and December 31, 1994 5
Notes to Consolidated Financial
Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 7
PART II - OTHER INFORMATION
Item 5. Other Information. 11
Item 6. Exhibits and Reports. 11
SIGNATURES 12
</TABLE>
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MICRODYNE CORPORATION
Consolidated Statements of Earnings
(Dollars and Shares in Thousands except Per Share Amounts)
(Unaudited)
<TABLE>
<CAPTION>
Quarter Ended
------------------------------
December 31, December 31,
1995 1994
------------- --------------
<S> <C> <C>
Revenue $33,018 $31,819
Cost of goods sold 24,406 22,029
------------- --------------
Gross Profit 8,612 9,790
Selling, general and administrative
expense 6,321 4,735
Research and development 1,269 1,162
------------- --------------
Earnings from operations 1,022 3,893
Other (expense) income
Interest expense (416) (220)
Other (expense) income (29) (835)
------------- --------------
Earnings before income taxes 577 2,838
Provision for income taxes 219 1,107
------------- --------------
Net earnings $358 $1,731
============= ==============
Net earnings per share $0.03 $0.14
============= ==============
Weighted Average Shares Outstanding 12,793 12,431
============= ==============
</TABLE>
The notes on the following pages are an integral part of these statements.
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MICRODYNE CORPORATION
Consolidated Balance Sheets
(Condensed - Dollars in Thousands)
<TABLE>
<CAPTION>
December 31, October 1,
1995 1995
(Unaudited) (Audited)
-------------- ------------
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash $3,940 $4,587
Accounts receivable, net 51,129 59,681
Inventories 28,852 25,917
Income tax receivable 1,088 1,306
Prepaid expenses and other 2,432 1,433
Deferred income taxes 1,304 1,243
-------------- ------------
Total current assets 88,745 94,167
PROPERTY AND EQUIPMENT, net 4,544 4,749
PRODUCT LINE ACQUISITION COST 9,973 10,333
OTHER ASSETS 1,227 1,133
-------------- ------------
$104,489 $110,382
============== ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Current maturities of l-t obligations $5,485 $5,483
Accounts payable 26,562 26,509
Accrued liabilities 16,720 21,603
-------------- ------------
Total current liabilities 48,767 53,595
LONG-TERM OBLIGATIONS, net of current
maturities 15,627 16,999
DEFERRED INCOME TAX PAYABLE 199 300
STOCKHOLDERS' EQUITY
Common stock, $.10 par value, authorized
50,000,000 shares, 12,800,306 issued and
outstanding at December 31, 1995 and
12,789,666 issued and outstanding at
October 1, 1995 1,280 1,279
Additional paid-in capital 10,089 10,040
Retained earnings 28,527 28,169
-------------- ------------
39,896 39,488
-------------- ------------
$104,489 $110,382
============== ============
</TABLE>
The notes on the following pages are an integral part of these statements.
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MICRODYNE CORPORATION
Consolidated Statement of Cash Flows
(Dollars in Thousands)
(Unaudited)
<TABLE>
<CAPTION>
Quarter Ended
12/31/95 12/31/94
------------- -------------
<S> <C> <C>
Increase (Decrease) in Cash:
Cash flows from operating activities:
Net earnings $ 358 $ 1,731
Adjustments to reconcile earnings to net cash
from operating activities, exclusive of effect of
acquisitions and dispositions:
Depreciation and amortization 715 207
Provisions for doubtful accounts receivable and
inventory obsolescence 181 507
Changes in assets and liabilities
Decrease (Increase) in accounts receivable 9,189 (4,326)
Increase in inventories (3,086) (2,247)
Increase in prepaid expenses (1,019) (76)
(Increase) decrease in other assets (94) 123
Decrease in income tax receivable 218 140
(Increase) decrease in deferred tax asset (62) 26
(Decrease) increase in accounts payable and other accruals (5,567) 3,986
------------- -------------
Net cash provided by operating activities 833 71
Cash flows from investing activities:
Product line acquisitions (12) -
Additions to property and equipment (168) (39)
Payments from officers 20 -
------------- -------------
Net cash used in investing activities (160) (39)
Cash flows from financing activities:
Repayments on long-term debt (1,370) (619)
Issuance of common stock 50 70
------------- -------------
Net cash used in financing activities (1,320) (549)
------------- -------------
Net decrease in Cash (647) (517)
Cash at beginning of period 4,587 2,628
------------- -------------
Cash at end of period $ 3,940 $ 2,111
============= =============
</TABLE>
The notes on the following pages are an integral part of these statements.
5
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. The interim financial information is unaudited. In the opinion of
management, financial statements included in this report reflect all normal
recurring adjustments which Microdyne Corporation ("the Company") considers
necessary for a fair presentation of the results of operations for the interim
periods covered and of the financial position of the Company at the date of the
interim balance sheet. The results for interim periods are not necessarily
indicative of the results for the entire year.
2. Included in other expense for the quarter ended December 31, 1994 is a
one-time charge of $875,000, reflecting an agreement to settle a stockholder
class action lawsuit.
3. The provision for income taxes presented in the Statements of Earnings is
based upon the estimated effective tax rate at fiscal year-end, and is largely
determined by management's estimate as of the interim date of projected taxable
income for the entire fiscal year.
4. In the Condensed Balance Sheets, Product Line Acquisition Cost includes
the long-term portion of minimum royalties due Attachmate (formerly DCA) under
the Token Ring purchase agreement. Product Line Acquisition Cost at December
31, 1995 also includes intangibles acquired under the Eagle Technology and
National Semiconductor purchase agreements.
5. In January 1995, the Company borrowed an additional $12.0 million under a
new bank borrowing facility to fund the Eagle Technology acquisition. As of
December 31, 1995, the Company owes its bank lenders $18.7 million, of which
$4.8 million is classified as short-term and $13.9 as long-term on the
Condensed Balance Sheet.
6
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PART I. - FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
GENERAL
Year-on-year sales increased in the first quarter of fiscal 1996 over
the first quarter of fiscal 1995 by $1.2 million, while earnings declined to
$358,000 from $1.7 million. Sequentially, both sales and earnings were down
from fiscal 1995's fourth quarter to fiscal 1996's first quarter.
First quarter 1996 results were the product of several factors, the
most important of which was that sales of Networking Products by the Company's
distributors did not continue to increase. This shortfall made it imprudent for
the Company to ship all of its bookings into distribution channels, and the
Company took steps to lower the volume of inventory held by its distributors.
Second, the Company received orders for several million dollars of Networking
Products in the closing days of the quarter which were for quantities the
Company did not anticipate and could not ship. Third, gross margins were less
than expected because of the mix of orders received. The shift in mix was not
evident until the final days of the quarter, when most Networking Products
orders were received. The financial performances of the Company's two other
businesses, Aerospace Telemetry and Manufacturer Support Services, met Company
expectations.
Sales of Networking Products out of distribution continued to be
strong. The Company continues to follow the strategy to increase sales and
earnings through the acquisition of product lines and the development of new
products. The Company has made four acquisitions of this nature over the past
eighteen months. While the Company continues to canvass for acquisition
opportunities, it has no commitments or understandings at this time.
The Company's future operating results could be affected by a number
of factors. These factors include but are not limited to a dependence on
Novell, Inc. The majority of the Company's Networking Products revenue is
derived from licenses from, or OEM agreements with, Novell. A change in Novell
pricing or distribution policy, or a substantial decline in Novell's share of
the network operating system market would have material adverse effects on the
Company. Additionally, the Company's financial performance may be affected by
rapid technological changes in the market; the actions of competitors, many of
which are larger and have more resources; a reliance on distributors; the
timing of orders; dependence on key subcontractors and suppliers; dependence on
a single customer within Manufacturer Support Services; risks associated with
the Company's acquisition strategy; and any inability to manage rapid growth.
These and other risk factors are delineated in the
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Company's S-3 Registration Statement dated November 9, 1995 and the Company's
October 1, 1995 Annual Report on Form 10-K.
Any shortfall in revenue or earnings from the levels expected by
securities analysts could have an immediate and significant effect on the
trading price of the Company's common stock in any given period. Moreover, as
in the first quarter of fiscal 1996, the Company may not learn of such
shortfalls until late in the fiscal quarter as a result of historical ordering
patterns. Late receipt of this information could result in an even more
immediate and adverse effect on the trading price of the Company's stock.
For the Company's second fiscal quarter ending March 31, 1996, the
Company expects earnings to continue to be depressed. As it did in the first
quarter of 1996, the Company will ship less hardware products to distributors
than those distributors are expected to sell to their customers. The Company
also expects sales of Microdyne hardware bundled with Novell software ("Bundled
Products") to decline from first quarter 1996 levels. The lack of an agreement
on a Federal budget is expected to reduce Aerospace Telemetry sales and
earnings (although the Company expects that it may recover some or most of
those sales in subsequent quarters.) The Company expects its Manufacturer
Support Services business to operate at its normal levels.
This Management's Discussion and Analysis may contain certain
forward-looking statements. Such statements are qualified in their entirety by
reference to, and are accompanied by, the discussion of important factors that
could cause the Company's actual results to differ from those projected in such
forward-looking statements. See Exhibit 5.
RESULTS OF OPERATIONS
THREE MONTHS ENDED DECEMBER 31, 1995 COMPARED TO THREE MONTHS ENDED DECEMBER
31, 1994
Revenue for the first quarter of fiscal year 1996 increased to $33.0
million from $31.8 million in the first quarter of fiscal year 1995, an
increase of 4%.
Networking Products revenue decreased to $24.8 million in 1996 from
$25.3 million in 1995. As described in the preceding section, this decline was
based on a Company decision not to ship all of the quarter's bookings so as to
align distributor-held inventory more closely with expected sales out of
distribution. PC Connectivity sales, which include the Company's Ethernet and
Token Ring adapter cards, increased to $14.0 million in 1996 from $12.5 million
in 1995. A $6.8 million increase in Ethernet product sales (largely a result of
the Eagle Technology and National Semiconductor acquisitions) was partially
offset by a $5.3 million decrease in Token Ring sales. Token Ring sales are
largely dependent upon the efforts of Attachmate Corporation which, by virtue
of acquiring DCA Corporation,
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has assumed certain contractual sales obligations. Bundled Products sales
increased slightly to $10.3 million in 1996 from $9.2 million in 1995. Changes
to Novell's sales policies may affect Bundled Products sales going forward.
Sales of other products decreased $3.1 million from 1995 to 1996. In this
category, Minicomputer Connectivity sales decreased, reflecting ongoing
industry trends.
Aerospace Telemetry sales grew to $5.0 million in 1996 from $3.9
million in 1995, reflecting increased demand for receiver upgrades and antenna
systems. Manufacturer Support Services (MSS) revenue grew to $3.5 million in
1996 from $2.7 million in 1995, reflecting continued growth in support
activities for the Company's customer.
Gross profit decreased to $8.6 million in 1996 from $9.8 million in
1995, and as a percentage of sales decreased to 26.1% from 30.8%. This decline
resulted from a change in the mix of orders received and an inability to ship
higher-margin hardware orders received at the end of 1996's first quarter.
SG&A expense increased to $6.3 million in 1996 from $4.7 million in
1995, and as a percentage of revenue grew to 19.1% in 1996 from 14.9% in 1995.
Major contributors to these increases were higher levels of sales and marketing
expenses in anticipation of greater revenue growth and new amortization of
product line acquisition cost.
Research and development expense was approximately level at $1.3
million in 1996 and $1.2 million in 1995.
Other expense in both 1996 and 1995 includes interest expense
associated with outstanding borrowings against the Company's line of credit.
Also included in 1995 other expense is a one-time charge of $875,000,
reflecting an agreement to settle a stockholder class action lawsuit.
Based on 1995's full year rate, the Company's provision for income
taxes in 1996's first quarter was 38% of pretax earnings, or $220,000. By
comparison, the Company's provision for income taxes in 1995's first quarter
was 39% of pretax earnings, or $1.1 million.
LIQUIDITY AND CAPITAL RESOURCES
During the past three years, the Company has financed its operations
principally through internally generated funds. However, the Company has
secured external financing in connection with acquisitions and the repurchase
of its common stock.
External financing has been provided through bank borrowings. As of
December 31, 1995, the Company has $18.7 million of bank debt, consisting of a
$6.7 million term note
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which is repaid in monthly payments and scheduled to be fully satisfied in May
1997; and $12.0 million in outstanding borrowings under a revolving line of
credit facility that expires in January 1998. The limit on this line of credit
facility was increased from $17.5 million to $22.5 million on October 26, 1995.
On December 31, 1995, the Company had $3.9 million of cash and $10.5 million in
available line of credit.
During the first quarter of fiscal 1996, cash provided by operating
activities was $866,000, primarily resulting from net earnings, a decrease in
accounts receivable, an increase in inventories, and a decrease in accounts
payable. Cash used in investing activities during 1996 was $160,000 of capital
expenditures. The Company has no material commitments for future capital
expenditures. Cash used in financing activities during 1996 was $1.4 million,
of which virtually all related to servicing the Company's term note.
The Company believes its available cash, funds generated from
operations, and funds available under its credit facilities should be
sufficient to finance its continuing operations. The Company may from time to
time consider the acquisition of businesses, products, or technologies that may
require additional funds.
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<PAGE> 11
PART II. - OTHER INFORMATION
Item 5. Other Information.
In connection with the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995, the Company is hereby filing
cautionary statements identifying important factors that could cause the
Company's actual results to differ from those that may have been or may be
projected in forward-looking statements by or on behalf of the Company from
time to time.
Item 6. Exhibits and Reports.
(a) The following exhibit is enclosed herein:
<TABLE>
<CAPTION>
Exhibit Number Description Pages
-------------- ------------------- -----
<S> <C> <C>
5 Cautionary statement 13-18
identifying important
factors that could cause
actual results to differ
</TABLE>
(b) No Form 8-K was filed during the quarter ended December 31, 1995.
11
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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.
MICRODYNE CORPORATION
---------------------
Registrant
Date: February 14, 1996 /s/ Philip T. Cunningham
--------------------------- -----------------------------
Philip T. Cunningham
President and Chief Executive
Officer [Duly Authorized
Officer]
Date: February 14, 1996 /s/ Christopher M. Maginniss
--------------------------- -----------------------------
Christopher M. Maginniss
Executive Vice President and
Chief Financial Officer
[Principal Financial Officer]
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EXHIBIT 5
SAFE HARBOR FOR FORWARD-LOOKING STATEMENTS UNDER PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995; CERTAIN CAUTIONARY STATEMENTS
The Company or its representatives from time to time may make or may
have made certain forward-looking statements, whether orally or in writing,
including without limitation any such statements make or to be make in the
Management's Discussion and Analysis contained in its various SEC filings. The
Company wishes to ensure that such statements are accompanied by meaningful
cautionary statements, so as to ensure to the fullest extent possible the
protections of the safe harbor established in the Private Securities Litigation
Reform Act of 1995. Accordingly, such statements are qualified in their
entirety by reference to and are accompanied by the following discussion of
certain important factors that could cause actual results to differ materially
from those projected in such forward-looking statements.
The Company cautions the reader that this list of factors may not be
exhaustive. The Company operates in a rapidly changing business, and new risk
factors emerge from time to time. Management cannot predict such risk factors,
nor can it assess the impact, if any, of such risk factors on the Company's
business or the extent to which any factor, or combination of factors, may
cause actual results to differ materially from those projected in any
forward-looking statements. Accordingly, forward-looking statements should not
be relied upon as a prediction of actual results.
Many of the important factors discussed below have been discussed
previously in the Company's SEC filings, including without limitation in the
Company's most recent S-3 Registration Statement dated November 9, 1995, and
the Company's most recent Annual Report on Form 10-K dated October 1, 1995
New Product Development and Rapid Technological Change. The market
for the Company's products is characterized by rapidly changing technology,
evolving industry standards and frequent introductions of new products and
enhancements. The Company's future success will depend in part on its ability
to enhance existing products and to introduce new products on a timely basis as
well as its ability to manage the transition from older products to minimize
disruption in customer ordering patterns, avoid excessive levels of older
product inventories and ensure that adequate supplies of new products can be
delivered to meet customer demand.
Highly Competitive Environment. The market for the Company's products
is highly competitive. The Company believes that its ability to compete
successfully depends on a number of factors including price, product features,
performance and reliability, name recognition, international certification, the
retention of experienced sales, marketing and service organizations,
development of new products and enhancements, adherence to rapidly changing
industry standards and product introductions and announcements by
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competitors. In the networking products market, the Company competes with a
number of vendors that have significantly greater financial, marketing,
technical and other resources as well as the capacity to obtain components at
lower cost either by purchasing large quantities of such components or by
fabricating such components in-house. These competitors may be able to respond
more quickly to new or emerging technologies and changes in customer
requirements, devote greater resources to the development, promotion and sale
of their products or control the timing of, or respond more effectively to, new
product introductions. Moreover, current and potential competitors have
established or may establish cooperative relationships among themselves or with
third parties to address the networking needs of the Company's prospective
customers. Increased competition from existing competitors, competitive
alliances or new entrants to the market could result in price reductions and
loss of market share to the Company. Because the Company sells through
distributors who carry competing product lines, rather than directly to
end-user customers, the Company is more likely to find its products compared
with others on the basis of price, creating greater pressure to reduce prices.
Dependence on Novell. The Company derives the majority of its revenues from
products sold under license from, or OEM agreements with Novell, Inc.
("Novell"). Most of the Company's adapter cards are marketed under the Novell
brand-name and "NE" (for "Novell Ethernet") designation, for which the Company
pays Novell (under a non-exclusive license) a royalty based on sales into
distribution. Novell could withdraw the Company's right to use the Novell name
and NE designation, change the terms of the Company's license in a manner
adverse to the Company or grant similar rights to other companies. The Company
also depends on Novell for the right to sell Novell's NetWare network operating
system as an OEM product to certain Novell-approved distributors that are
permitted to sell NetWare only as a "bundled solution" together with certain of
the Company's products, principally adapter cards. The agreement under which
the Company sells NetWare is renewable annually and terminable at Novell's
discretion. Periodically, Novell amends the discount structure pursuant to
which the Company sells Novell products, which amendments have in the past and
may in the future impact the Company's profitability. The Company's business
also depends in substantial part on Novell's ability to maintain a significant
market share of the network operating systems software market, which market
share is impacted by competition from several sources, including Microsoft
Corporations Windows NT network operating system.
Reliance on Distributors. The Company's networking products
("Networking Products") are sold primarily through distributors, the four
largest of which accounted for $52.2 million, or 37% of the Company's
Networking Products revenue in fiscal 1995. Distributors sell the Company's
products primarily to Value Added Resellers ("VARs") that, in turn, sell to or
install networks for end-user customers. Generally, the Company must
manufacture products in advance of orders from distributors and must,
therefore, estimate demand as accurately as possible. Accordingly, information
regarding VAR. and end user demand is very important to the Company because
distributors' orders can be expected to largely reflect such demand. However
as a general practice, distributors do not reveal the names of their customers
to manufacturers. As a result, the Company learns
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the name of end-user customers only if such customers contact the Company for
warranty service, technical support, or of their own volition. Distributors
provide certain information regarding their levels of sales to VARs and other
customers, called Point of Sale ("POS") data, but such POS information cannot
be assured to be either timely or accurate. In this regard, some of the
Company's distributors provide only cursory information. In addition,
distributors maintain target stocking levels of products, and such targeted
levels may change without notice, which could decrease the Company's sales in a
given period. Moreover, distributors characteristically sell products at a
small mark-up to the price from which they are obtained from manufacturers, and
terms of sale may influence a distributor's decision to carry certain products.
If based on inadequate POS and end user information, unanticipated distributor
targeted stocking levels, unanticipated price competition, or otherwise , the
Company is unable to estimate production requirements of its distributors and
future sales levels generally, the Company's results of operations, quarterly
or otherwise, may fluctuate due to production in excess of demand or production
insufficient to satisfy demand.
Fluctuation in Quarterly Results and Timing of Orders. The Company's
quarterly operating results depend upon a variety of factors including the
timing of significant orders, the timing of product enhancements and new
product introductions by the Company and its competitors, the pricing of the
Company's products, changes in product mix, competitive conditions and general
economic conditions. The Company has historically operated with limited
backlog because its products are shipped shortly after orders are received, and
frequently realizes a substantial portion of its net revenues in the last month
of the quarter. As a result, revenue in any period is substantially dependent
on orders booked and shipped in the last month of that period. Delays in
receipt of end-of quarter orders in a given quarter may adversely affect the
Company's results of operations for that quarter, as the Company's expense
levels are based primarily on full-quarter revenue estimates and only a small
portion of the Company's operating expenses vary whit its revenue. Moreover,
The Company's revenue may fluctuate based on the level of inventories of the
Company's products maintained by the Company's distributors in any particular
quarter. Accordingly, the Company may be subject to significant and
unanticipated quarter-to-quarter fluctuations.
Declining Average Selling Prices. The selling price of computer
networking hardware products, including LAN adapter cards, has consistently
declined in recent years. To remain profitable, the Company must continually
reduce the manufacturing cost of its products, which reductions the Company may
not be able to achieve on a regular basis. Even if the Company is able to
achieve these reductions, gross margins will be subject to pressure should
another manufacturer reduce the price of a competing product. When
announcements of price reductions are made, the Company must choose whether to
meet the competitor's new, lower price. If the price is not met, the Company
risks losing customers who purchase networking products principally on the
basis of price. If the price is met, the Company must provide price protection
for all unsold inventory, subject to certain limitations, in the hands of
distributors and reprice such existing inventory. While the Company maintains
financial reserves for price protection that it believes are
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adequate, such reserves could prove to be insufficient. Moreover, the Company
may not be able to reduce manufacturing costs of the affected product line to
offset lower selling prices.
Dependence on Subcontractors and Suppliers. The Company is dependent
on a small number of third-party subcontractors for the manufacture and
assembly of substantially all of its networking products. In the event that
any of these subcontractors were to become unable or unwilling to manufacture
the Company's products in required volumes, the Company would have to identify
and qualify additional subcontractors, which process could be lengthy or
ultimately may prove to be unsuccessful. Certain components used in the
Company's products are only available from a single supplier or a limited
number of suppliers. Each of the Token Ring chip sets used by the Company for
its IRMAtrac LAN adapter card and the 10/100 ISA chip set used on the Company's
10/100 ISA adapter card is available only from a single source. Moreover, the
Company is subject to long lead times or allocations for certain semiconductor
products, including random access memory chips. If the Company is unable to
obtain sufficient supply of components from its traditional suppliers, it will
be required to purchase such components in the open market, typically at a
premium to the price normally paid. The Company may not be able to obtain from
its suppliers sufficient quantities of the components the Company requires to
satisfy its anticipated needs, and may not be able to obtain such supplies at
satisfactory prices. The Company generally purchases components pursuant to
purchase orders and has not guaranteed supply arrangements with its suppliers.
Further, the availability of many of these components is dependent in part on
the Company's ability to provide its suppliers with accurate forecasts of its
future requirements, which is largely dependent upon the Company's ability to
obtain accurate POS data.
Dependence Upon a Single Customer at Manufacturer Support Services.
The Company's Manufacturer Support Services operation, which provides
outsourced telephone technical support, warranty administration and whole unit
repair services, has only one customer; a large, multinational electronics
manufacturer. THE COMPANY'S CONTRACT WITH THIS CUSTOMER EXPIRED AT THE END OF
1995 AND HAS BEEN EXTENDED THROUGH A NEGOTIATING PERIOD DURING WHICH THE
COMPANY ANTICIPATES THAT AN ADDITIONAL FIVE YEAR TERM WILL BE RENEWED EFFECTIVE
JANUARY 1, 1996. Should that customer terminate its relationship with the
Company, the resulting loss of business would have a material adverse effect on
the Company.
Limited Product Line. The Company's product line is focused on
hardware products that facilitate local area networking. During the past few
years, several companies, including 3Com Corporation, Cisco Systems, Inc., Bay
Networks, Inc. and Cabletron Corporation, have positioned themselves as
providers of complete solutions for the LAN, wide-area network, remote access,
and internetwork (the "enterprise-wide" network). These companies market their
product families as being optimized to work together, and encourage customers
to purchase a single brand of products, including local area networking
hardware. Because the Company's products address only local and
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<PAGE> 5
remote network functions, an acceleration in the trend toward "enterprise-wide"
product purchases may have the effect of curtailing the Company's growth.
Acquisition Risk. The Company's future success is dependent in part
on its ability to acquire technology or products that expand its product lines
or that can be used in future product developments or enhancements. Since July
1994, the Company has acquired four product lines. Because these acquisitions
have been made only recently, there can be no assurance that the acquired
products or technologies will achieve commercial success or be successfully
assimilated by the Company. Further, past or future acquisitions may not
produce the anticipated technological enhancements, products or results.
Moreover, future acquisition opportunities may not be available at prices that
are acceptable to the Company.
Lack of Proprietary Technology. The Company's success and ability to
compete is dependent in part upon its ability to differentiate its products
from those of its competitors. The Company does not possess any meaningful
combination of patent, copyright or trade secrets that would allow the Company
to distinguish its products as materially superior to competing products.
While the Company does not believe its competitors possess such intellectual
property rights, the Company's competitors may independently develop
technologies that are substantially superior to the ones used by the Company.
The Company is also subject to the risk of adverse claims and litigation
alleging infringement of other parties' proprietary rights. While the Company
is not aware that any of its products infringe any patents, third parties may
assert infringement claims with respect to the Company's current of future
products, which claims may require the Company to enter into license
arrangements or result in protracted and costly litigation, regardless of the
merits of such claims. Further, the Company may not be able to obtain licenses
from such claimants or if it can, the terms on which it may obtain such
licenses may not be commercially reasonable.
Risks Associated with International Operations. Revenue derived from
sales outside the United States accounts for and may continue to account for a
significant portion of the Company's total revenue. Moreover, the Company
purchases components manufactured in China, Malaysia, Singapore and Hong Kong.
Sales to customers outside the United States and reliance on foreign suppliers
expose the Company to a number of risks, including unexpected changes in
regulatory requirements and tariffs, possible difficulties in enforcing
agreements and intellectual property rights, longer payment cycles, exchange
rate fluctuations, difficulties obtaining export licenses, the imposition of
withholding or other taxes, embargoes or exchange controls or the adoption of
other restrictions on foreign trade.
Dependence on Personnel. The Company believes that its future success
will depend in large part upon its ability to attract and retain highly skilled
engineering, managerial, sales, marketing and operations personnel. Except
with regard to the Chief Executive Officer, who entered into a four year
employment agreement as of October 24, 1995, the Company does not have
employment contracts with its key personnel.
17
<PAGE> 6
Competition for such personnel is intense especially in the areas of
engineering, sales and marketing, and the Company may not be able to attract
and retain key management or technical personnel.
Management of Growth. The Company has recently experienced rapid
growth which has placed and could continue to place, a significant strain on
the Company's management, operations and internal systems. which may negatively
impact management's ability to effectively manage future growth.
Potential Volatility of Stock Price. The market price of the
Company's Common Stock has been, and could be subject to wide fluctuations in
response to, among other things, quarterly fluctuations in operating results,
adverse circumstances affecting the introduction or market acceptance of new
products or enhancements offered by the Company, failure to meet published
estimates of, or changes in earnings estimates by securities analysts,
announcements of new products or enhancements by competitors, sales of Common
Stock by existing holders, loss of key personnel, market conditions in the
industry, shortages of key components and general economic conditions. In
addition, stock prices for many technology companies, including the Company,
have experienced significant volatility for reasons unrelated to operating
results. The market price of the Company's stock may be impacted significantly
by such fluctuations.
18
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