<PAGE>
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FORM 10-K/A-1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED)
For the fiscal year ended September 30, 1997
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
Commission File No. 0-12194
ZITEL CORPORATION
(Exact name of Registrant as specified in its charter)
CALIFORNIA 94-2566313
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
47211 BAYSIDE PARKWAY, FREMONT, CALIFORNIA 94538-6517
(Address of principal executive offices) (Zip Code)
(510) 440-9600
(Registrant's telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, NO PAR VALUE
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed 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 .
----- -----
The aggregate market value of the Registrant's Common Stock held by
nonaffiliates on November 28, 1997 (based upon the closing sale price of stock
on such date) was $172,724,861. As of November 28, 1997, 15,749,251 of the
Registrant's Common Stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the Company's 1997 Notice of Annual Meeting of Shareholders and
Proxy Statement are incorporated by reference into Part III hereof.
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<PAGE>
This Amendment is filed to amend Item 8 to reflect certain subsequent events.
Item 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Consolidated Balance Sheets
(In thousands)
<TABLE>
<CAPTION>
September 30,
1997 1996
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 4,224 $ 9,216
Marketable securities - 2,382
Short-term investments 9,596 -
Accounts receivable, less allowance for doubtful
accounts of $175 in 1997 and $88 in 1996 6,547 5,542
Inventories 3,050 4,211
Deferred and refundable taxes 3,540 2,224
Other current assets 993 480
-------- -------
Total current assets 27,950 24,055
Fixed assets-net 3,700 2,253
Intangible assets-net 5,846 -
Other assets-net 11,798 4,391
-------- -------
Total assets $ 49,294 $30,699
======== =======
Liabilities And Shareholders' Equity
Current liabilities:
Accounts payable $ 4,768 $ 2,066
Accrued liabilities 4,419 1,544
-------- -------
Total current liabilities 9,187 3,610
Convertible subordinated debenture 24,161 -
Commitments (See note)
Shareholders' equity:
Preferred stock, no par value; 1,000 shares
authorized, none issued
Common stock, no par value; 40,000 shares authorized:
Issued and outstanding; 15,603 shares and 14,820 shares
at September 30, 1997 and 1996, respectively 27,081 20,723
Retained earnings (deficit) (11,135) 6,366
-------- -------
Total shareholders' equity 15,946 27,089
-------- -------
Total liabilities and shareholders' equity $ 49,294 $30,699
======== =======
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
1
<PAGE>
Consolidated Statements of Operations
(In thousands except per share data)
<TABLE>
<CAPTION>
Year Ended September 30,
1997 1996 1995
<S> <C> <C> <C>
Net sales $ 12,626 $ 8,593 $ 8,293
Royalty revenue 5,340 14,473 15,421
-------- ------- -------
Total revenue 17,966 23,066 23,714
Costs and expenses:
Cost of goods sold 9,301 6,630 6,807
Research and development 7,504 6,551 5,754
Selling, general and administrative 14,468 8,002 6,944
Acquisition of in-process research
& development 6,600 - -
-------- ------- -------
Operating income (loss) (19,907) 1,883 4,209
Interest income (746) (482) (399)
Interest expense 3,532 25 156
Other income and expense (689) (4,188) (19)
-------- ------- -------
Income (loss) before income taxes (22,004) 6,528 4,471
Provision (benefit) for income taxes (4,503) 2,479 (4,055)
-------- ------- -------
Net income (loss) $(17,501) $ 4,049 $ 8,526
======== ======= =======
Net income (loss) per share $(1.15) $.26 $.56
======== ======= =======
Number of shares used in per share calculation 15,222 15,626 15,166
======== ======= =======
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
2
<PAGE>
Consolidated Statements of Shareholders' Equity
(In thousands except per share data)
<TABLE>
<CAPTION>
Common Common Retained Total
Stock Stock Earnings Shareholders'
Shares Amount (Deficit) Equity
<S> <C> <C> <C> <C>
Balances at September 30, 1994 12,970 $15,489 $ (5,485) $ 10,004
Issuance of common stock:
Stock options exercised ($0.34-$4.57
per share) 544 1,262 - 1,262
Employee stock purchase plan ($1.07 and $3.83
per share) 134 230 - 230
Private placement 900 2,922 - 2,922
Stock warrants 4 13 - 13
Net income - - 8,526 8,526
------ ------- -------- --------
Balances at September 30, 1995 14,552 19,916 3,041 22,957
Issuance of common stock:
Stock options exercised ($0.82-$7.94
per share) 310 686 - 686
Employee stock purchase plan ($4.15 and $5.10
per share) 66 303 - 303
Stock repurchase (130) (182) (724) (906)
Stock warrants 22 - - -
Net income - - 4,049 4,049
------ ------- -------- --------
Balances at September 30, 1996 14,820 20,723 6,366 27,089
Issuance of common stock:
Stock options exercised ($0.81 - $9.50
per share) 498 1,104 - 1,104
Employee stock purchase plan ($7.87 and $16.58
per share) 35 390 - 390
Stock warrants 15 - - -
Common stock issued for acquisition 61 1,200 - 1,200
Conversion of subordinated debt 174 3,664 - 3,664
Net loss - - (17,501) (17,501)
------ ------- -------- --------
Balances at September 30, 1997 15,603 $27,081 $(11,135) $ 15,946
====== ======= ======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
Consolidated Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
Year Ended September 30,
1997 1996 1995
<S> <C> <C> <C>
Cash flows provided by (used in) operating activities:
Net income (loss) $(17,501) $ 4,049 $ 8,526
Adjustments to reconcile net income (loss) to
net cash provided by (used in) operating activities:
Acquisition of in-process research & development expenses 6,600 - -
Discount amortization on subordinated debt 2,778 - -
Depreciation and amortization 1,404 935 1,384
Loss on disposal of fixed assets - 15 111
Provision for doubtful accounts 284 185 114
Provision for inventory allowances 480 480 176
Unrealized gains on marketable securities - (2,041) -
Realized gains on marketable securities (777) (2,136) -
Deferred and refundable income taxes (4,743) 2,124 (4,104)
Change in operating assets and liabilities:
Increase in accounts receivable (1,289) (1,527) (529)
Decrease (increase) in inventories 681 (1,770) 1,825
Decrease (increase) in other current assets (513) (62) 418
Increase (decrease) in accounts payable 2,702 341 (298)
Increase (decrease) in accrued liabilities 2,875 33 (50)
-------- ------- -------
Net cash provided by (used in) operating activities (7,019) 626 7,573
-------- ------- -------
Cash flows provided by (used in) investing activities:
Acquisition of fixed assets (2,650) (1,676) (1,222)
Investment in unconsolidated company (2,024) (3,497) -
Purchase of short-term investments (9,596) - -
Proceeds from sale of marketable securities 3,159 2,795 -
Purchase of other assets (1,089) (367) (446)
Purchase of companies net of cash acquired (11,062) - -
-------- ------- -------
Net cash used in investing activities (23,262) (2,745) (1,668)
-------- ------- -------
Cash flows provided by (used in) financing activities:
Issuance of common stock 1,494 989 4,427
Repurchase of common stock - (906) -
Proceeds from borrowings - - 3,646
Repayments of borrowings - (13) (3,723)
Issuance of subordinated debenture 23,795 - -
-------- ------- -------
Net cash provided by financing activities 25,289 70 4,350
-------- ------- -------
Net increase (decrease) in cash (4,992) (2,049) 10,255
Cash and cash equivalents, beginning of year 9,216 11,265 1,010
-------- ------- -------
Cash and cash equivalents, end of year $ 4,224 $ 9,216 $11,265
======== ======= =======
Supplemental cash flow information:
Interest paid - - $ 57
Income taxes paid $ 265 $ 82 $ 136
Supplemental non-cash investing and financing activities:
Issuance of common stock in business combination $ 1,200 - -
Capitalized financing costs $ 1,038 - -
Conversion of subordinated debt and accrued interest $ 3,664 - -
Conversion of note receivable to investment in
unconsolidated company $ 300 - -
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
Notes to Consolidated Financial Statements
(In thousands except per share data)
Summary of Significant Accounting Policies:
Zitel Corporation (the "Company") is an Information Technology Company that
specializes in advanced memory algorithms, systems optimization, and modeling
and search technology. The Company employs these core competencies in three
related lines of business: multi-platform and multi-system performance
measurement and modeling software used to optimize performance in mission-
critical environments; high-performance, enterprise-wide storage systems for
mission-critical applications that include relational database, batch and on-
line transactions; and, Year 2000 services and consulting including project
management, planning, analysis, code conversion and testing using the MatriDigm
technology and other tools. Zitel conducts its business within one industry
segment. The following is a summary of Zitel's significant accounting policies:
Principles of Consolidation:
The consolidated financial statements include the accounts of Zitel Corporation
and its wholly-owned subsidiaries. Zitel's preferred stock interest in an
unconsolidated company is accounted for under the equity method. All
significant intercompany accounts and transactions have been eliminated.
Use of Estimates:
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amount of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from these estimates.
Cash Equivalents:
For purposes of the statements of cash flows, the Company considers all highly
liquid debt instruments purchased with a maturity of three months or less to be
cash equivalents.
5
<PAGE>
Marketable Securities:
At September 30, 1996, the Company's marketable securities consisted entirely of
common shares of one company and were classified as trading securities. Those
securities were sold in January 1997. The gain on the sale of such securities
is included in other income.
Short-Term Investments:
At September 30, 1997, the Company's short-term investments, which were
classified as available-for-sale securities, consisted entirely of 120-day high-
grade commercial paper with a maturity date of October 2, 1997. The Company's
short-term investments are carried at cost, which approximates fair value.
Inventories:
Inventories are stated at the lower of cost (determined on a first-in, first-out
basis) or market.
Fixed Assets:
Fixed assets, other than leasehold improvements, are depreciated on a straight-
line basis over their estimated useful lives (2-7 years). Leasehold
improvements are amortized over the lesser of their useful life or remaining
term of the related lease. When assets are disposed of, the cost and related
accumulated depreciation are removed from the accounts and the resulting gains
and losses are included in the results of operations.
Deferred Software Implementation Costs:
The Company capitalizes substantially all costs related to the purchase of
internal-use software and its implementation which includes the cost of
purchased software, consulting fees and the use of certain specified Company
resources. As of September 30, 1997 and 1996, $1,092 thousand and $238
thousand, respectively, in costs have been capitalized and are included in other
long-term assets. Amortization in the amount of $111 thousand has been charged
during fiscal year 1997. No amortization had been charged in fiscal year 1996.
Revenue Recognition:
Revenue is recognized at the time products are shipped to
6
<PAGE>
customers and at the time services are rendered. Royalty revenue is recognized
when earned and receipt is assured. Software revenue is recognized in
accordance with the American Institute of Certified Public Accountants Statement
of Position (SOP) 91-1, "Software Revenue Recognition". The effect of the new
SOP 97-2, "Software Revenue Recognition", issued on October 27, 1997, has yet to
be determined.
Research and Development Expenditures:
Research and development expenditures are charged to operations as incurred.
Software Development Costs:
Statement of Financial Accounting Standards (SFAS) No. 86 provides for the
capitalization of certain software development costs after technological
feasibility of the software is attained. Software development costs capitalized
in fiscal year 1997 were $189 thousand. No amortization has been charged as of
September 30, 1997.
Foreign Currency Translation:
The U.S. dollar is considered to be the functional currency for the Company's
foreign operations. Accordingly, non-monetary assets and liabilities have been
translated into U.S. dollars at a historical rate; monetary assets and
liabilities have been translated into U.S. dollars using the exchange rate at
the balance sheet date; and revenues and expenses have been generally translated
into U.S. dollars at the weighted average exchange rate during the period.
Foreign currency transaction gains and losses, as well as the effects of
remeasurement (which have not been material in the aggregate), are included in
the accompanying statements of operations.
Intangible Assets:
Intangible assets include goodwill and purchased technology, recorded in
connection with the acquisition of the three software companies, which are being
amortized on a straight-line basis over seven and five years, respectively. The
Company periodically assesses the recoverability of intangible assets by
determining whether the amortization of the asset balance over its remaining
life can be recovered through undiscounted future operating cash flows of the
acquired operation. The amount of
7
<PAGE>
impairment, if any, is measured based on projected discounted future operating
cash flows and is recognized as a write down of the asset to a net realizable
value.
Income Taxes:
The Company accounts for income taxes under the liability method. Deferred tax
assets and liabilities are determined based on the difference between the
financial reporting and tax bases of assets and liabilities and are measured
using enacted tax rates and laws that will be in effect when the differences are
expected to reverse.
Recent Accounting Pronouncements:
The Financial Accounting Standards Board (FASB) issued SFAS No. 128, "Earnings
Per Share", in February 1997 effective for periods ending after December 15,
1997. SFAS No. 128 was issued to simplify the computation of Earnings Per Share
(EPS) and to make the U.S. standard more compatible with the EPS standards of
other countries. Prior period EPS will be restated after the effective date of
this statement. The effect of the adoption of SFAS No. 128 has yet to be
determined.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income".
SFAS No. 130 establishes standards for the reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements. Comprehensive income is defined as the change in equity of
a business enterprise during a period from transactions and other events and
circumstances from non-owner sources. The impact of adopting SFAS No. 130,
which is effective for the Company beginning in fiscal year 1999, has not been
determined.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information". SFAS No. 131 requires publicly-held
companies to report financial and other information about key revenue-producing
segments of the entity for which such information is available and is utilized
by the chief operations decision maker. Specific information to be reported for
individual segments includes profit or loss, certain revenue and expense items
and total assets. A reconciliation of segment financial information to amounts
reported in the financial statements would be provided. SFAS No. 131 is
effective for the Company beginning in fiscal year 1999 and the impact of
adoption has not been determined.
8
<PAGE>
Net Income (Loss) Per Share:
Net income (loss) per share amounts are computed by dividing the net income
(loss) by the weighted average number of common shares and common equivalent
shares (when dilutive) outstanding during each year presented using the treasury
stock method.
Concentrations of Credit Risk:
Financial instruments which potentially subject the Company to concentrations of
credit risk consist principally of cash, marketable securities and trade
receivables. The Company places its cash investments and marketable securities
with high credit quality financial institutions and limits the amount of
exposure to any one financial institution. Concentrations of credit risk with
respect to trade receivables are limited due to the diversity of the Company's
customers, both geographically and within different industry segments.
Fair Value of Financial Instruments:
Carrying value amounts of certain of the Company's financial instruments,
including cash and cash equivalents, marketable securities, short-term
investments, accounts receivable, accounts payable, subordinated debentures, and
other accrued liabilities approximate fair value due to their short maturities.
<TABLE>
<CAPTION>
September 30,
1997 1996
<S> <C> <C>
Inventories:
Raw materials $ 953 $ 1,515
Work in progress 576 738
Finished goods 1,521 1,958
------- -------
$ 3,050 $ 4,211
======= =======
Fixed Assets:
Manufacturing equipment $ 3,965 $ 3,666
Office furniture and equipment 4,162 2,250
Engineering equipment 4,576 4,334
Leasehold improvements 683 666
------- -------
13,386 10,916
Less accumulated depreciation
and amortization (9,686) (8,663)
------- -------
$ 3,700 $ 2,253
======= =======
</TABLE>
9
<PAGE>
Depreciation expense was $1,316 thousand, $827 thousand and $1,281 thousand for
the fiscal years ended September 30, 1997, 1996 and 1995, respectively.
<TABLE>
<CAPTION>
September 30,
1997 1996
<S> <C> <C>
Other Assets:
Investment in unconsolidated companies $5,879 $3,563
Deferred software implementation costs 1,092 238
Deferred taxes, net 3,177 -
Capitalized financing costs on
subordinated debt 1,038 -
Other 947 1,014
------- ------
12,133 4,815
Less accumulated amortization (335) (424)
------- ------
$11,798 $4,391
======= ======
</TABLE>
Business Combinations:
On June 30, 1997, the Company acquired Datametrics Systems Corporation, Palmer &
Webb Systems Limited, and Palmer & Webb Systems B.V. The purchase price
consisted of a cash payment of $11.1 million, the issuance of shares of the
Company's common stock valued at $1.2 million and transaction costs of
approximately $500 thousand. The acquisition has been accounted for under the
purchase method of accounting. Accordingly, the total purchase price of $12.8
million was allocated to the net assets acquired based upon their estimated fair
values. In addition, $6.6 million of the purchase price was allocated to
purchased in-process research and development that has not reached technological
feasibility and that has no alternative future use. The operating results of
the acquired companies from July 1, 1997 through September 30, 1997, are
included in the consolidated results of operations.
The following table is a summary of pro-forma financial information with respect
to the combined companies as described above, disclosing pro-forma results of
operations for the fiscal years ended September 30, 1997 and 1996, as though the
entities had been combined as of October 1, 1997 and 1996. The pro-forma
results do not reflect any non-recurring charges which resulted directly from
the transaction, such as the $6.6 million write-off of purchased research and
development.
10
<PAGE>
<TABLE>
<CAPTION>
Year ended September 30,
1997 1996
<S> <C> <C>
Revenue $ 28,263 $36,095
Net income (loss) $(13,624) $ 2,929
Net income (loss) per share $ (0.90) $ 0.19
</TABLE>
Investment in Unconsolidated Companies:
At September 30, 1996, Zitel had a $2.4 million investment in a company,
classified as a trading marketable security, which was accounted for under the
cost method. During fiscal year 1997, the Company liquidated its investment in
the company.
In November 1995, Zitel purchased 9.6 million shares of preferred stock of a
company in the development stage, in exchange for $3.35 million in cash, $66
thousand in equipment and $150 thousand in future rent and administrative
services. The technology rights include an exclusive license to manufacture and
market certain products using proprietary technology of the company, subject to
a royalty to the company. In July 1996, Zitel entered into an agreement to
resell services of the company on a commission basis. The agreement also
provides Zitel the exclusive right to create portable, on-site centers for the
performance of services offered by the company for certain accounts in certain
circumstances. During fiscal year 1997, the Company purchased an additional one
million shares of preferred stock of the company in exchange for $2.0 million in
cash. The Company also exercised an option to purchase 500 thousand shares of
the company's common stock from a shareholder of the company for $300 thousand.
Refer to "Note Receivable from Related Party" footnote.
The following is a summary of financial information with respect to the company,
as of September 30, 1997 and 1996:
<TABLE>
<CAPTION>
1997 1996
unaudited
<S> <C> <C>
Net sales $ 123 $ -
Gross profit 38 -
Net loss (14,549) (1,873)
Current assets 3,816 2,612
Non-current assets 4,009 1,009
Current liabilities 1,504 324
</TABLE>
11
<PAGE>
Note Receivable from Related Party:
The Company held a note receivable from an officer of an unconsolidated company
with a principle balance of $300 thousand. At September 30, 1996, the note was
included in other long-term assets. During fiscal year 1997, the note was
investment is included in other long-term assets.
<TABLE>
<CAPTION>
September 30,
1997 1996
<S> <C> <C>
Accrued Liabilities:
Accrued payroll and related $1,062 $ 435
Accrued vacation 886 594
Accrued commissions 170 24
Deferred revenue 1,100 -
Deferred warranty costs 1,023 -
Other accrued liabilities 178 491
------ ------
$4,419 $1,544
====== ======
</TABLE>
Line of Credit:
The Company has a $3.0 million bank line of credit which expires on January 31,
1998. Interest is at the prime rate (8.50% at September 30, 1997) and is
payable monthly. The Company is required to maintain certain specified
financial ratios and profitable operations on a quarterly basis. The bank has
waived non-compliance with the profitability covenant as of September 30, 1997.
As of September 30, 1997, the Company had no borrowings outstanding under the
line of credit.
Commitments:
The Company leases its operating facilities under non-cancelable operating
leases that expire at various dates through the year 2005. Rent expense
incurred under all operating leases and charged to operations was $789 thousand
in 1997, $574 thousand in 1996 and $606 thousand in 1995.
Future minimum obligations under all facility leases at September 30, 1997
aggregate approximately $9.0 million, payable as follows:
12
<PAGE>
<TABLE>
<CAPTION>
Fiscal Year
<S> <C>
1998 $1,407
1999 1,481
2000 1,495
2001 1,512
2002 1,549
Thereafter 1,519
</TABLE>
Convertible Subordinated Debentures:
On May 22, 1997, the Company issued $25 million principal amount of 5%
Convertible Subordinated Debentures (the "Debentures") which are due November
22, 1999. The Debentures accrue interest at the rate of 5% per annum and
principal and accrued interest are convertible into Common Stock of the Company
at a price equal to 90% of the average of the closing bid prices for the Common
Stock on the five consecutive trading days preceding the date of conversion, but
in no event greater than $26.975 per share. The Debentures are not convertible
until the earlier of (a) 90 days following the date of issue or (b) the
effective date of a corporate reorganization to which the Company is a party,
and any Debentures outstanding on November 22, 1999 automatically will be
converted into Common Stock. The Debentures restrict distributions and
repurchases of capital stock.
The current year Consolidated Statement of Operations includes a charge to
interest expense in the amount of $2,778 thousand related to the amortization of
the total discount on the 5% Convertible Subordinated Debentures. During
September 1997, approximately $3.3 million was converted to 174 thousand shares
of common stock at prices ranging from $20.28 to $22.74 per share.
CAPITAL STOCK:
- -------------
Preferred Stock:
In October 1983, the Company authorized one million shares of preferred stock.
The Board of Directors has the authority to establish all rights and terms with
respect to the preferred stock without future vote or action by the
shareholders.
Private Placement:
In November 1994, the Company issued 900 thousand shares of
13
<PAGE>
common stock in a private placement. Net proceeds from this transaction were
$2.9 million. Common stock purchase warrants totaling approximately 45 thousand
were issued as a part of this transaction. The warrants have been fully
exercised.
Stock Option Plans:
At September 30, 1997, the Company had reserved 5.5 million common shares for
issuance under its 1990 Stock Option, 1982 Incentive Option and 1984
Supplemental Stock Option Plans. Under the Company's stock option plans,
options become exercisable at dates and in amounts as specified by the
Compensation Committee of the Board of Directors and expire two to ten years
from the date of grant. Options may be granted to employees at prices not less
than fair market value at the date of grant. At September 30, 1997, there were
34 thousand shares reserved for future grants. At September 30, 1996, there
were no shares reserved for future grant.
Activity in the Company's option plans during fiscal years 1995, 1996 and 1997
is summarized as follows:
<TABLE>
<CAPTION>
Weighted
Number Average Options
of Price Price Total
Shares Per Share Per Share Amount
<S> <C> <C> <C> <C>
Balances, September 30, 1994 1,996 $ 1.92 $ .34-$ 9.50 $ 3,819
Granted 544 $ 5.99 $ 3.94-$ 9.50 3,263
Cancelled (136) $ 3.39 $ 1.44-$ 7.94 (462)
Exercised (544) $ 2.28 $ .34-$ 4.56 (1,243)
----- ------------- -------
Balances, September 30, 1995 1,860 $ 2.89 $ .34-$ 9.50 5,377
Granted 260 $ 7.10 $ 4.82-$ 9.88 1,851
Cancelled (40) $ 4.69 $ 1.19-$ 7.94 (190)
Exercised (310) $ 2.13 $ .82-$ 7.94 (660)
----- ------------- -------
Balances, September 30, 1996 1,770 $ 3.60 $ .34-$ 9.88 6,378
Granted 1,008 $23.47 $13.63-$44.38 23,662
Cancelled (291) $28.75 $ 1.06-$44.38 (8,372)
Exercised (477) $ 2.05 $ .81-$ 9.50 (978)
----- ------------- -------
Balances, September 30, 1997 2,010 $10.29 $ .34-$44.38 $20,690
===== ====== ============= =======
</TABLE>
At September 30, 1997 and 1996, respectively, options for 867 thousand and 1,044
thousand shares were exercisable at prices ranging from $0.34 to $17.44.
14
<PAGE>
1995 Non-Employee Directors' Stock Option Plan:
In April 1995, the Board of Directors approved the adoption of a Directors' plan
which provides for automatic, non-discretionary grants of options to purchase an
aggregate of 200 thousand shares of common stock. Options in the amount of 30
thousand, 24 thousand, and 24 thousand were granted in fiscal years 1995, 1996
and 1997, respectively, at prices ranging from $5.88 to $33.00 per share.
Options totaling 21 thousand shares were exercised during fiscal 1997 with
prices ranging from $5.88 to $6.22. 122 thousand shares are available for
future grant. At September 30, 1997, 38 thousand shares were exercisable at
prices ranging from $5.88 to $33.00. At September 30, 1996, 25 thousand shares
were exercisable at prices ranging from $5.88 to $6.22.
Preferred Share Purchase Rights Plan:
In June 1996, the Company adopted a Preferred Share Purchase Rights Plan whereby
shareholders will receive one right to purchase one one-hundredth of a share of
a new series of preferred stock ("Rights") for each outstanding share of the
Company's common stock held at the date of record, July 1, 1996. The Rights do
not become exercisable or transferable apart from the common stock until a
person or group (a) acquires beneficial ownership of 15% or more of the
Company's common stock or (b) announces a tender or exchange offer, the
consummation of which would result in ownership by a person or group of 15% or
more of the Company's common stock. The Rights will be distributed as a non-
taxable dividend and will expire in ten years from the date of declaration of
the dividend. The exercise price is $69.50 per 1/100 of a share of preferred
stock.
Stock Purchase Plan:
In April 1984, the Board of Directors approved the adoption of an Employee Stock
Purchase Plan under which 400 thousand shares of common stock were reserved for
issuance to eligible employees.
In January 1988, January 1990, January 1992, and January 1995, the shareholders
approved amendments to increase the shares reserved for the Plan by 300 thousand
shares, 400 thousand shares, 400 thousand shares, and 500 thousand shares,
respectively. Employees who do not own 5% or more of the outstanding shares are
eligible to participate through payroll deductions, which may not exceed 10% of
an employee's compensation. At the end of each offering period, shares are
15
<PAGE>
purchased by the participants at 85% of the lower of the fair market value at
the beginning or the end of the offering period. The 15% discount is treated as
equivalent to the cost of issuing stock for financial reporting purposes. 35
thousand and 66 thousand shares were issued under the Plan during fiscal years
1997 and 1996, respectively. Since inception of the Plan, approximately 1,635
thousand shares have been issued.
Pro Forma Stock-Based Compensation:
As of September 30, 1997, options outstanding were as follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
- ----------------------------------------------------- ---------------------
Weighted
Range Average Weighted Weighted
of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
- --------------- ----------- ----------- -------- ----------- --------
<S> <C> <C> <C> <C> <C>
$ 0.34 - $ 1.31 206 0.58 $ 1.22 206 $ 1.22
$ 1.38 - $ 2.00 115 3.75 $ 1.67 112 $ 1.67
$ 2.06 - $ 2.06 204 2.83 $ 2.06 204 $ 2.06
$ 2.31 $ 5.63 344 7.38 $ 4.73 185 $ 4.55
$ 5.69 - $ 7.94 276 7.73 $ 6.50 119 $ 6.51
$ 8.19 - $17.44 317 8.91 $14.24 78 $11.42
$19.13 - $19.63 230 9.40 $19.36 - -
$20.13 - $22.50 300 9.56 $21.35 - -
$23.25 - $24.50 49 9.84 $23.90 - -
$33.00 - $33.00 26 9.41 $33.00 12 $33.00
----- ---- ------ --- ------
$ 0.34 - $33.00 2,067 6.91 $10.29 916 $ 3.82
</TABLE>
The Company has elected to continue to follow the provisions of Accounting
Principles Board (APB) No. 25, "Accounting for Stock Issued to Employees", for
financial reporting purposes and has adopted the disclosure-only provisions of
SFAS No. 123, "Accounting for Stock-Based Compensation". Accordingly, no
compensation cost has been recognized for the Company's stock option plans or
employee stock purchase plan. Had compensation cost for the Company's stock
option plans and employee stock purchase plan been determined based on the fair
value at the grant date for awards in fiscal years 1997 and 1996 consistent with
the provisions of SFAS No. 123, the Company's net income (loss) and net income
(loss) per share for fiscal years 1997 and 1996 would have been modified to the
pro forma amounts indicated below (in thousands, except per share amounts):
16
<PAGE>
<TABLE>
<CAPTION>
Year ended September 30,
1997 1996
<S> <C> <C>
Net income (loss) applicable to
common stockholders - as reported $(17,501) $4,049
======== ======
Net income (loss) applicable to
common stockholders - pro forma $(22,138) $3,637
======== ======
Net income (loss) per share - as reported $ (1.15) $ .26
======== ======
Net income (loss) per share - pro forma $ (1.45) $ .23
======== ======
</TABLE>
The above pro forma disclosures are not necessarily representative of the
effects on reported net income or loss for future years.
The aggregate fair value and weighted average fair value of each option granted
in fiscal years 1997 and 1996 were $13.4 million and $1.2 million, and $12.99
and $4.23, respectively. The fair value of each option grant is estimated on
the date of grant using the Black-Scholes Option Pricing Model with the
following weighted average assumptions for fiscal years 1997 and 1996:
Expected volatility 76% - 91%
Risk-free interest rate 5.07% - 6.22%
Expected life .88 - 5.12 years
Expected dividend yield 0.0%
The Company has also estimated the fair value for the purchase rights under the
employee stock purchase plan using the Black-Scholes Model, with the following
assumptions for fiscal years 1997 and 1996:
Expected volatility 65% - 136%
Risk-free interest rate 5.51% - 5.63%
Expected life .50 years
Expected dividend yield 0.0%
Savings and Investment Plan:
The Company has a Savings and Investment Plan, qualified under sections 401(k)
and 401(a) of the Internal Revenue Code, that enables participating U.S.
employees to prepare for retirement. The Plan allows eligible employees to
defer up to 15%, but no greater than $9.5 thousand per year, of their earnings
on a pre-tax basis through contributions to the Plan. The Plan provides for
employer contributions at the discretion of the Board of
17
<PAGE>
Directors; however, no such contributions were made in fiscal 1997, 1996, or
1995.
Income Taxes:
The provision (benefit) for income taxes for the years ended September 30, 1997,
1996 and 1995 is as follows:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Current expense:
Federal $ - $ 77 $ 125
State - 23 -
Foreign - - 7
------- ------- -------
- 100 132
Deferred tax expense (benefit):
Federal (3,989) 2,091 (3,735)
State (514) 288 (452)
------- ------- -------
$(4,503) $ 2,479 $(4,055)
======= ======= =======
</TABLE>
The Company's effective tax rate for the years ended September 30, 1997 and 1996
differs from the U.S. federal statutory income tax rate as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Federal income tax at statutory rate (34.0)% 34.0%
State taxes, net of federal benefit (4.1) 6.1
Tax credits (2.3) (2.7)
Non-deductible interest expense 5.1 -
Other, net 3.6 .6
Change in valuation allowance 11.2 -
------ ----
(20.5)% 38.0%
====== ====
</TABLE>
The following table shows the major components of the deferred tax asset as of
September 30, 1997 and 1996:
18
<PAGE>
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Deferred tax assets and liabilities:
Current:
Accounts receivable, inventory and
other reserves $ 1,109 $ 694
Accrued liabilities 330 286
Net operating losses 3,975 373
Tax credit carryforwards 2,391 1,015
Appreciation of marketable securities - (819)
Other 981 259
------- -------
Total before valuation allowance 8,786 1,808
Valuation allowance (2,475) -
------- -------
Net deferred tax asset $ 6,311 $ 1,808
======= =======
</TABLE>
At September 30, 1997, the Company has federal and state net operating loss
(NOL) carryforwards of $10.5 million and $5.2 million, respectively, to reduce
future taxable income. The Company has federal and state general business
credit carryforwards of $1.9 million and $.5 million, respectively, to reduce
future taxable income. These carryforwards expire in 1998 through 2012 if not
utilized.
In addition, the Company has $6.2 million of NOLs related to stock option
exercises, the benefit of which will be credited to equity when utilized.
Due to the uncertainty surrounding the realization of the NOL and credit
carryforwards in future tax returns, a valuation allowance has been established
to reduce the deferred tax assets to the amount expected to be realized. The
valuation allowance increased by $2.5 million during the year ended September
30, 1997.
Research and Development Contract:
During fiscal year 1992, the Company entered into a joint development contract
to develop a product with a third party. The Company received funding from the
third party based on completion milestones. In addition, upon completion of the
project, the Company has and will receive a royalty based on sales by the third
party of the product developed. Royalties totaling approximately $5.3 million,
$14.5 million and $15.4 million were received from the third party in fiscal
years 1997, 1996 and 1995, respectively.
19
<PAGE>
Foreign Operations:
The Company's foreign operations are those of its European branches and
subsidiaries. All of their sales are made to unaffiliated European customers.
The following table summarizes the Company's European operations:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Net sales $ 4,530 $2,924 $1,566
Operating income (loss) (1,080) 585 (124)
Total assets 6,693 1,368 386
</TABLE>
Export Sales:
Export sales from domestic operations were $2.2 million, $1.4 million and $1.5
million in 1997, 1996 and 1995, respectively.
Major Customers:
Sales to one customer amounted to 14.6% and 14.3% of net sales in 1997 and 1995,
respectively. Sales to two customers amounted to 13% and 11.8% of net sales in
1996.
Subsequent Events (Unaudited):
Convertible Subordinated Debentures
On June 16, 1998, the Company issued $10,000,000 principal amount of 3%
Convertible Subordinated Debentures (the Debentures) which are due June 15,
1999, and five-year common stock purchase warrants for 150,000 shares of the
Company's common stock. The Debentures include a 10% discount of $1,111,000,
which was charged to interest expense in the third quarter of fiscal 1998. The
Debentures accrue interest at the rate of 3% per annum and principal and
accrued interest are convertible into common stock of the Company at a price
of $3.92625 per share. The Warrants were valued at $4.08 per share and will be
amortized over the life of the Debentures. Any Debentures outstanding on June
15, 1999, will be automatically converted into common stock. The Debentures
restrict distributions and repurchases of capital stock.
Definitive Merger Agreement
On October 5, 1998, the Company signed a definitive agreement to acquire the
remaining 68.7% of MatriDigm Corporation (MatriDigm) not currently owned in a
tax-free exchange of stock, which will be accounted for as a purchase
combination. The MatriDigm shareholders will receive approximately 0.65 share,
of a newly created company, for each MatriDigm share they currently own. The
merger is subject to the approval of the shareholders' of the Company and
MatriDigm and regulatory approval. Under the definitive agreement, the Company
committed to fund the working capital needs of MatriDigm from October 5, 1998
through the date of the closing of the merger, which is expected to be in early
calendar year 1999.
Net cash used in operations during fiscal 1997 and through the nine months
ended June 30, 1998 was $7,019 and $9,635, respectively. Management is seeking
to increase revenues while controlling costs to meet the combined working
capital needs. If the Company is unable to generate sufficient cash flow from
operations, it will need to raise additional debt or equity. There can be no
assurance that management will be able to execute their plans or raise
additional debt or equity funding.
20
<PAGE>
Report of Independent Accountants
To the Shareholders and Board of Directors
Zitel Corporation
We have audited the accompanying consolidated balance sheets of Zitel
Corporation and subsidiaries as of September 30, 1997 and 1996, and the related
consolidated statements of operations, shareholders' equity, and cash flows for
each of the three years in the period ended September 30, 1997. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
consolidated financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Zitel
Corporation and subsidiaries as of September 30, 1997 and 1996, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended September 30, 1997, in conformity with generally
accepted accounting principles.
Net cash used in operating activities by the Company during fiscal year 1997 and
through the nine months ended June 30, 1998 was $7,019,000 and $9,635,000,
respectively. As discussed in the Subsequent Events Note, the Company is
committed to acquire the remaining 68.7% of MatriDigm Corporation (MatriDigm)
not currently owned. The Company has committed to fund the working capital
needs of MatriDigm through the closing of the merger. Management is seeking to
increase revenues while controlling costs to meet the combined working capital
needs. If the Company is unable to generate sufficient cash flows from
operations, it will need to raise additional debt or equity. There can be no
assurance that management will be able to execute their plans or raise
additional debt or equity funding.
PricewaterhouseCoopers LLP
San Jose, California
October 28, 1997, except for
the Subsequent Events Note for
which the date is October 19, 1998
21
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized.
ZITEL CORPORATION
/s/ Jack H. King
------------------------------------
By: Jack H. King
President and Director
Chief Executive Officer
October 21, 1998
22
<PAGE>
Exhibit
Number Description
- ------- -----------
23.1 Consent of Independent Accountants.
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statements of
Zitel Corporation on Form S-8 (File No.'s 33-92522 and 33-47697) and Form S-3
(File No. 33-359131) of our report, which includes an explanatory paragraph,
for an emphasis of a matter, regarding the Company's operating activities and
liquidity, dated October 28, 1997, except for the subsequent events note, for
which the date is October 19, 1998, on our audit of the consolidated financial
statements of Zitel Corporation as of September 30, 1997 and 1996 and for the
years ended September 30, 1997, 1996 and 1995, which report is included in
this Annual Report on Form 10-K/A.
/s/ PricewaterhouseCoopers
PricewaterhouseCoopers LLP
San Jose, California
October 20, 1998
