UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 29, 2000
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period ended ______________ or __
Commission File Number 0-15323
NETWORK EQUIPMENT TECHNOLOGIES, INC.
------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 94-2904044
---------------------------------- ---------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or Identification Number)
organization)
6530 Paseo Padre Parkway
Fremont, CA 94555
(510) 713-7300
--------------
(Address, including zip code, and telephone number
including area code, of registrant's
principal executive offices)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days.
Yes |X| No |_|
The number of shares outstanding of the registrant's Common Stock, par
value $.01, on September 29, 2000 was 21,717,251.
================================================================================
This document consists of 20 pages of which this is page 1.
<PAGE>
NETWORK EQUIPMENT TECHNOLOGIES, INC.
INDEX
Page
Number
------
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets -
September 29, 2000 and March 31, 2000 3
Condensed Consolidated Statements of Operations and
Statements of Comprehensive Income (Loss)- Quarter and
Six Months ended September 29, 2000 and
September 26, 1999 4
Condensed Consolidated Statements of Cash Flows -
Six Months ended September 29, 2000
and September 26, 1999 5
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of
Results of Operations and Financial Condition 9
Item 3. Quantitative and Qualitative Disclosures About Market
Risk 18
PART II. OTHER INFORMATION
Item 4. Submission of Matters to Vote of Security Holders 19
Item 6 Exhibits and Reports on Form 8-K 19
SIGNATURES 20
2
<PAGE>
Part I
Financial Information
Item 1.
NETWORK EQUIPMENT TECHNOLOGIES, INC.
Condensed Consolidated Balance Sheets
(in thousands, except per share data)
<TABLE>
<CAPTION>
September 29, March 31,
2000 2000
------------------------------------------------------------------------------------------------------------------------------------
(unaudited) (1)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents, $1,776 restricted at September 29, 2000
and $13,144 restricted at March 31, 2000 $ 22,570 $ 28,024
Short term investments 102,278 96,902
Accounts receivable, net of allowances of $5,599 at September 29, 2000
and $5,350 at March 31, 2000 41,175 39,317
Inventories 18,158 17,691
Prepaid expenses and other current assets 6,486 6,087
------------------------------------------------------------------------------------------------------------------------------------
Total current assets 190,667 188,021
------------------------------------------------------------------------------------------------------------------------------------
Property and equipment, net 32,245 41,621
Software production costs, net 3,240 4,821
Goodwill and other intangible assets, net 14,758 15,220
Other assets 7,861 10,311
------------------------------------------------------------------------------------------------------------------------------------
$ 248,771 $ 259,994
====================================================================================================================================
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 7,278 $ 9,009
Accrued and other current liabilities 42,292 40,119
------------------------------------------------------------------------------------------------------------------------------------
Total current liabilities 49,570 49,128
------------------------------------------------------------------------------------------------------------------------------------
Long-term liabilities:
Capital leases 128 186
Long term accrued liabilities 28 --
7 1/4% redeemable convertible subordinated debentures 24,706 24,706
------------------------------------------------------------------------------------------------------------------------------------
Total long term liabilities 24,862 24,892
------------------------------------------------------------------------------------------------------------------------------------
Stockholders' equity:
Preferred stock, par value $.01
Authorized: 5,000,000 shares
Outstanding: none -- --
Common stock, par value $.01
Authorized: 50,000,000 shares
Outstanding: 21,717,251 shares at September 29, 2000
and 21,602,000 at March 31, 2000 217 216
Additional paid in capital 182,460 181,683
Treasury stock (5,620) (5,640)
Retained earnings (1,839) 11,064
Accumulative other comprehensive loss (879) (1,349)
------------------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 174,339 185,974
------------------------------------------------------------------------------------------------------------------------------------
$ 248,771 $ 259,994
====================================================================================================================================
</TABLE>
See Accompanying Notes to Condensed Consolidated Financial Statements
(1) Derived from the March 31, 2000 audited consolidated financial statements
3
<PAGE>
NETWORK EQUIPMENT TECHNOLOGIES, INC.
Condensed Consolidated Statements of Operations and
Statements of Comprehensive Income (Loss)
(in thousands, except per share data - unaudited)
<TABLE>
<CAPTION>
Quarter ended Six Months ended
------------- ----------------
Sept. 29, Sept. 26, Sept. 29, Sept. 26,
2000 1999 2000 1999
====================================================================================================================================
<S> <C> <C> <C> <C>
Revenue:
Product revenue $ 20,622 $ 41,511 $ 43,135 $ 79,609
Service and other revenue 21,935 23,277 42,825 47,734
------------------------------------------------------------------------------------------------------------------------------------
Total revenue 42,557 64,788 85,960 127,343
------------------------------------------------------------------------------------------------------------------------------------
Cost of product revenue 11,002 19,248 23,161 37,074
Cost of service and other revenue 13,556 14,719 27,378 29,730
------------------------------------------------------------------------------------------------------------------------------------
Total cost of revenue 24,558 33,967 50,539 66,804
------------------------------------------------------------------------------------------------------------------------------------
Gross margin 17,999 30,821 35,421 60,539
Operating expenses:
Sales and marketing 11,631 17,962 23,125 36,640
Research and development 9,406 10,967 19,781 22,253
General and administrative 3,382 3,501 6,578 7,172
Restructure cost (158) 3,380 (158) 3,383
Amortization of goodwill and other intangible assets 861 -- 1,662 --
------------------------------------------------------------------------------------------------------------------------------------
Total operating expenses 25,122 35,810 50,988 69,448
------------------------------------------------------------------------------------------------------------------------------------
Loss from operations (7,123) (4,989) (15,567) (8,909)
Interest income 1,947 1,697 3,815 3,165
Interest expense (575) (475) (1,114) (967)
Other income (expenses) (442) (116) (10) 7,461
------------------------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes (6,193) (3,883) (12,876) 750
Income tax provision (benefit) 9 (970) 24 188
------------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ (6,202) $ (2,913) $ (12,900) 562
====================================================================================================================================
Earnings (loss) per share:
Basic $ (0.29) $ (0.14) $ (0.60) $ 0.03
Diluted $ (0.29) $ (0.14) $ (0.60) $ 0.03
====================================================================================================================================
Shares used in per share computation:
Basic 21,619 21,332 21,574 21,359
Diluted 21,619 21,332 21,574 21,509
====================================================================================================================================
Condensed Consolidated Statements of Comprehensive Income (Loss)
------------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ (6,202) $ (2,913) $ (12,900) $ 562
Other comprehensive income (loss), net of tax:
Cumulative translation gains 211 240 49 90
Net unrealized gains (losses) on securities, net of taxes (226) 24 407 (6,981)
Less reclassification adjustment for gains
included in net income 14 (3) 14 7,513
------------------------------------------------------------------------------------------------------------------------------------
Comprehensive income (loss) $ (6,203) $ (2,652) $ (12,430) $ 1,184
====================================================================================================================================
</TABLE>
See Accompanying Notes to Condensed Consolidated Financial Statements
4
<PAGE>
NETWORK EQUIPMENT TECHNOLOGIES, INC.
Condensed Consolidated Statements of Cash Flows
(in thousands - unaudited)
<TABLE>
<CAPTION>
Six Months ended
----------------
Sept. 29, Sept 26,
2000 1999
------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash and cash equivalents at beginning of year $ 28,024 $ 13,720
------------------------------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income (loss) (12,900) 562
Adjustments required to reconcile net income (loss) to net
cash used in operations:
Depreciation and amortization 9,800 11,791
Amortization of goodwill and intangibles 1,662 --
Restructure liability 3,996 3,318
Restricted stock compensation -- 7
Deferred income taxes -- (3,499)
Loss on disposition of property and equipment 235 132
Changes in assets and liabilities:
Accounts receivable (2,311) (6,640)
Inventories (472) 2,698
Prepaid expenses and other current assets (1,026) 517
Accounts payable (1,697) (4,676)
Accrued liabilities (6,171) 1,288
------------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) operations (8,884) 5,498
------------------------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Purchases of temporary cash investments (33,354) (48,528)
Maturities of short term investments 27,752 84,004
Purchases of property and equipment (3,696) (3,156)
Additions to software production costs -- (1,328)
Cash paid for Convergence assets acquisition (1,500) --
Other 2,379 407
------------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) investing activities (8,419) 31,399
------------------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Sale of common stock 2,211 1,835
Repurchase of common stock (1,413) (3,005)
Insurance settlement proceeds 10,000 --
------------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities 10,798 (1,170)
------------------------------------------------------------------------------------------------------------------------------------
Effect of exchange rate changes on cash 1,051 22
Net increase (decrease) in cash and cash equivalents (5,454) 35,749
------------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 22,570 $ 49,469
====================================================================================================================================
Other cash flow information:
Cash paid (refunded) during the year:
Interest $ 906 $ 936
Income taxes -- (6,190)
Non-cash investing and financing activities:
Unrealized gain (loss) on available-for-sale securities $ 226 $ (6,981)
</TABLE>
See Accompanying Notes to Condensed Consolidated Financial Statements
5
<PAGE>
NETWORK EQUIPMENT TECHNOLOGIES, INC.
Notes to Condensed Consolidated Financial Statements
1. Basis of Presentation
The condensed consolidated financial statements include the accounts of Network
Equipment Technologies, Inc. doing business as net.com ("net.com") and its
subsidiaries. Intercompany accounts and transactions have been eliminated.
Beginning fiscal year 2001, net.com began using a fiscal year consisting of four
13 week quarters. In all previous years we used a modified four 13 week quarter
fiscal year that resulted in the first quarter of the fiscal year being shorter
than 13 weeks and the fourth quarter being longer than 13 weeks due to quarter
ending dates. The new fiscal year period being used is intended to better
reflect quarter over quarter performance.
We have reclassified certain general and administrative expenses in the prior
year Condensed Consolidated Statement of Operations. These reclassifications had
no effect on Stockholder's equity or Net Comprehensive losses. This is intended
to better reflect year over year comparisons of operating results.
In the opinion of management, the accompanying unaudited condensed consolidated
financial statements contain all adjustments (consisting only of normal
recurring adjustments) considered necessary to present fairly the financial
position as of September 29, 2000, and the results of operations and cash flows
for the quarters ended September 29, 2000 and September 26, 1999. These
financial statements should be read in conjunction with the March 31, 2000
audited consolidated financial statements and notes thereto. The results of
operations for the quarter ended September 29, 2000 are not necessarily
indicative of the results to be expected for the fiscal year ending March 31,
2001.
2. Inventories
Inventories are stated at lower of cost (first-in, first-out) or market and
include material, labor and manufacturing overhead costs. Inventories at
September 29, 2000 and March 31, 2000 consisted of the following:
(Dollars in thousands) September 29, 2000 March 31, 2000
------------------------------------------------------------------------------
Purchased components $ 4,140 $ 2,866
Work-in-process 12,951 13,868
Finished goods 1,067 957
------------------------------------------------------------------------------
$ 18,158 $ 17,691
==============================================================================
3. Earnings (Loss) Per Share
Basic earnings (loss) per share have been computed based upon the weighted
average number of common shares outstanding for the periods presented. For
diluted earnings per share, shares used in the per share computation include
weighted average common and potentially dilutive shares outstanding. Potentially
dilutive shares consist of shares issuable upon the assumed exercise of dilutive
stock options. These shares totaled 363,000 and 168,000 for the quarters ended
September 29, 2000 and September 26, 1999, respectively. The shares were
excluded from the per share computation. Additionally, there were 784,000 shares
of Common Stock issuable upon conversion of debentures. These shares, and the
related effect of the accrued interest on the debentures, were not included in
the calculation of diluted earnings per share for the periods ended September
29, 2000 or September 26, 1999, as their inclusion would have been antidilutive
in both periods.
4. Comprehensive Income
Accumulated other comprehensive income (loss) at September 29, 2000 and March
31, 2000 is comprised of cumulative foreign translation adjustments of
($753,000) and ($802,000), respectively, and cumulative net unrealized losses on
available-for-sale securities of ($126,000) and ($547,000), respectively.
5. Restructure Costs
Fourth Quarter Fiscal Year 1999 Restructuring
The Consolidated Statements of Operations for fiscal 1999 included a charge of
$4.7 million, consisting of $4.6 million for employee severance and other
related costs and $135,000 for office closures. A restructuring accrual of
$851,000 remains as of September 29, 2000. We expect that the accrual will be
paid in its entirety by the end of fiscal 2003.
6
<PAGE>
Restructure Paid Remaining
Charge To Date Accrual
Compensation $ 3,964 $ 3,113 $ 851
Outplacement 597 597 --
Office closures 135 135 --
------- ------- -------
Totals $ 4,696 $ 3,845 $ 851
======= ======= =======
Second Quarter Fiscal Year 2000 Restructuring
The Condensed Consolidated Statements of Operations for fiscal 2000 included a
charge of $3.4 million taken in the second quarter of fiscal year 2000,
consisting of $3.2 million for employee severance and other related costs and
$174,000 for office closures. A restructuring accrual of $110,000 remains as of
September 29, 2000. We expect that the accrual will be paid in its entirety by
the end of fiscal 2003.
Restructure Paid Remaining
Charge To Date Accrual
Compensation $ 2,912 $ 2,802 $ 110
Outplacement 266 266 --
Office closures 174 174 --
------- ------- -------
Totals $ 3,352 $ 3,242 $ 110
======= ======= =======
Fourth Quarter Fiscal Year 2000 Restructuring
The Condensed Consolidated Statements of Operations for fiscal 2000 included a
charge of $12.2 million taken in the fourth quarter of fiscal 2000 consisting of
$7.3 million for employee severance and other related costs and $4.9 million for
office closures and related costs. A restructuring accrual of $4.4 million
remains as of September 29, 2000. We expect that the accrual will be
substantially paid during fiscal 2001.
Restructure Paid Remaining
Charge To Date Accrual
Compensation $ 6,710 $ 6,118 $ 592
Outplacement 636 538 98
Office closures 4,869 1,158 3,711
------- ------- -------
Totals $12,215 $ 7,814 $ 4,401
======= ======= =======
Accrual Evaluation
In the quarter ended September 29, 2000 we evaluated the adequacy of the
remaining accruals for the fourth quarter fiscal year 1999 restructuring and
second quarter fiscal year 2000 restructuring. This evaluation resulted in a
$158,000 credit due to actual expenditures being slightly less than the original
accrual.
6. Recently Issued Accounting Standards
Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for
Derivative Instruments and Hedging Activities," as amended, establishes
accounting and reporting standards for derivative instruments. Adoption of this
statement will not materially impact our consolidated financial condition,
results of operations or cash flows. This statement is effective for us
beginning April 1, 2001.
In December 1999, the SEC issued Staff Accounting Bulletin (SAB) No. 101,
"Revenue Recognition in Financial Statements" which summarizes certain of the
SEC staff's views in applying generally accepted accounting principles to
revenue recognition in financial statements. We believe that our revenue
recognition policy complies with the provisions of SAB No. 101.
7. Assets Acquisition
In the first quarter of fiscal 2001, we acquired the assets of privately held
Convergence Equipment Company ("Convergence") from Global Communication
Technologies, Inc. for $1.5 million in cash. Convergence designs
7
<PAGE>
and manufactures next generation IP (internet protocol) telephony platforms. The
acquisition was accounted for as a purchase. Included in the transaction is
property, plant and equipment valued at $300,000 and the Convergence engineering
team, intellectual property, and a full-featured IP voice switch valued at $1.2
million. The $1.2 million is classified as an intangible asset and will be
amortized over 5 years. The operating results for Convergence have been included
in the consolidated statements of operations for net.com effective May 4, 2000,
the date of the acquisition.
8. Employee Stock Purchase Plan Share Issuance
Under net.com's 1998 Employee Stock Purchase Plan ("ESPP"), net.com's employees,
subject to certain restrictions, may purchase shares of net.com Common Stock at
a price equal to at least 85% of the lower of the market value of the Common
Stock at the beginning of the offering period or at the end of each four month
purchase period. In the first fiscal quarter of fiscal year 2001net.com
discovered that for the April 28, 2000 ESPP purchase date, it had inadvertently
failed to register 49,343 shares of the total 78,461 shares issued under the
ESPP. net.com notified those employees who received the unregistered shares of
their right to seek recission of their purchase of these shares by requesting
that net.com repurchase the unregistered shares at the original price paid by
the employee plus interest at the legal rate. All shares were sold at $6.80 per
share for a total aggregate repurchase price of $335,532 plus interest.
9. Subsequent Event
On October 18, 2000 net.com entered into an agreement for the sale of its
federal services business ("FSB") assets to CACI International, Inc. ("CACI")
for a cash consideration of up to $40.0 million. The assets involved are
comprised mainly of federal government service contracts, accounts receivable,
spares inventory and fixed assets. The purchase price will be paid out over time
with $25.0 million payable at closing, $1.0 million six months after closing,
$1.0 million held in escrow and payable one year after closing and the remaining
$13.0 million payable contingent upon transfer to CACI of work performed under
certain net.com federal contracts. Additionally CACI and net.com will enter into
a royalty agreement whereby net.com and CACI will share in the increase in
maintenance revenue above an agreed upon base amount on net.com products. This
sale is subject to appropriate regulatory approvals and certain closing
conditions. It is expected to close in the quarter ending December 29, 2000.
8
<PAGE>
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
This discussion and analysis should be read in conjunction with Part I of the
Company's Form 10-K for the fiscal year ended March 31, 2000.
Statements made in this Management's Discussion and Analysis or elsewhere in
this quarterly report or other communications (including press releases and
analyst calls) contain forward-looking statements that involve risk and
uncertainty. These statements relate to future events or to our future financial
results. Forward-looking statements can often be identified by words such as
"may", "will", "should", "expect", "anticipate", "believe", "estimate" or words
of similar import. Our actual results may differ significantly from those
anticipated by any forward-looking statement as a result of a number of factors,
trends, and risks - many beyond our control. These factors and risks are
discussed further in the Business Environment and Risk Factors below and in the
Company's Form 10-K for the year ending March 31, 2000. We do not undertake an
obligation to update these forward -looking statements or risk factors to
reflect future events or circumstances.
RESULTS OF OPERATIONS
The following table depicts selected data derived from the Company's
Consolidated Statements of Operations expressed as a percentage of revenue for
the periods presented:
<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------
Quarter Ended Six Months Ended
------------- ----------------
Sept. 29, Sept. 26, Sept. 29, Sept. 26,
Percent of Revenue 2000 1999 2000 1999
-------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Product revenue 48.5 64.1 50.2 62.5
Service and other revenue 51.5 35.9 49.8 37.5
------ ------ ------ ------
Total revenue 100.0 100.0 100.0 100.0
------ ------ ------ ------
Product gross margin 46.6 53.6 46.3 53.4
Service and other revenue gross margin 38.2 36.8 36.1 37.7
------ ------ ------ ------
Total gross margin 42.3 47.6 41.2 47.5
------ ------ ------ ------
Sales and marketing 27.3 27.7 26.9 28.8
Research and development 22.1 16.9 23.0 17.5
General and administrative 7.9 5.4 7.7 5.6
Amortization of intangibles 2.0 0.0 1.9 0.0
Reorganization expense (0.4) 5.2 (0.2) 2.7
------ ------ ------ ------
Total operating expenses 59.0 55.3 59.3 54.5
------ ------ ------ ------
Income (loss) from operations (16.7) (7.7) (18.1) (7.0)
------ ------ ------ ------
Net income (loss) (14.6) (4.5) (15.0) 0.4
====== ====== ====== ======
-------------------------------------------------------------------------------------
</TABLE>
Revenue
Total revenue for the second quarter of fiscal 2001 decreased $22.2 million to
$42.6 million, or 34.3% from the second quarter of fiscal 2000, and decreased
$41.4 million to $86.0 million, or 32.5%, on a year-to-date basis. Similarly,
product revenue for the second quarter of fiscal 2001 decreased $20.9 million to
$20.6 million, or 50.3% from the second quarter of fiscal 2000, and decreased
$36.5 million to $43.1 million, or 45.8%, on a year-to-date basis. During the
second quarter and the first six months of fiscal 2001, product revenue declined
in all of our sales channels, North America, Federal, Europe, and Asia
Pacific/Latin America compared to both these prior periods. The decrease in
product revenue was primarily due to a decline in sales of our circuit switched
or "narrowband" product line Promina(R), which accounts for the majority of our
product sales. The market for narrowband products is declining as the market for
packed switched or "broadband" products is increasing. Net.com is currently
developing products for the broadband equipment market, which will replace for
Promina product line. Although
9
<PAGE>
we shipped our first order for broadband product revenue in the second quarter
of fiscal 2001, significant revenue from broadband products is not expected
until fiscal 2002.
Service and other revenue for the second quarter and first six months of fiscal
2001 decreased $1.3 million to $21.9 million or 5.8%, from the second quarter of
fiscal 2000, and decreased $4.9 million to $42.8 million, or 10.3%, on a year-to
date basis. The decrease in service and other revenue is primarily the result of
a decline in the installed base of equipment that requires ongoing service
support.
Gross Margin
Total gross margin, comprised of product and service margin, decreased as a
percentage of total revenue to 42.3% and 41.2% in the second quarter and first
six months of fiscal 2001, respectively, compared to 47.6% and 47.5% for both
comparable periods in fiscal 2000. The decline resulted from lower product
revenue gross margins. These lower gross margins were caused primarily by
unfavorable manufacturing variances due to lower product revenue and relatively
fixed manufacturing overhead. In addition, product revenue declined as a
percentage of total revenue in the second quarter and first six months of fiscal
2001 from the comparable periods in fiscal 2000. Product revenue has higher
gross margins compared to service and other revenue gross margins and declines
in product revenue as a percentage of total revenue decrease total gross margin.
Service and other revenue gross margin increased to 38.2% in the second quarter
fiscal 2001 from 35.9% in the second quarter of 2000. Service and other revenue
gross margin decreased to 36.1% in the first six months of fiscal 2001 from
37.7% in the first six months of fiscal 2000. The decrease in gross margin for
the first six months of fiscal 2001 was the result of lower service contract
revenue and relatively fixed service support expenses compared to the first six
months of fiscal 2000.
Operating Expenses
Operating expenses in the second quarter and the first six months of fiscal 2001
decreased $10.7 million to $25.1 million, and $18.5 million to $51.0 million,
respectively, from the comparable periods of fiscal 2000. Operating expenses as
a percentage of total revenue increased to 59.0% from 55.3% quarter-over-quarter
and 59.3% from 54.5% year-over-year. The decrease in operating expenses are
primarily due to lower headcount resulting from the restructuring that occurred
in the fourth quarter of fiscal 2000. The increase in operating expenses as a
percentage of total revenue resulted primarily from the lower revenues in the
second quarter and first six months of fiscal 2001 compared to both these prior
periods. We continue to focus on cost control and expect operating expenses to
remain relatively constant for the remainder of the fiscal year.
Sales and marketing expense decreased $6.3 million to $11.6 million and $13.5
million to $23.1 million in the second quarter and first six months of fiscal
2001, respectively, from the comparable periods of fiscal 2000. Sales and
marketing expense as a percentage of total revenue decreased to 27.3% from 27.7%
quarter-over quarter and to 26.9% from 28.8% year-over-year. The decrease in
spending is primarily the result of lower compensation related costs as a result
of reduced headcount. A portion of sales expense is a variable expense to
product revenue and as a result, we expect sales and marketing expenses to vary
as a percentage of sales volume for the remainder of the fiscal year.
Research and development expense decreased $1.6 million to $9.4 million and $2.5
million to $19.8 million in the second quarter and first six months of fiscal
2001, respectively, from the comparable periods of fiscal 2000. The decrease in
spending is primarily the result of lower compensation related costs as a result
of reduced headcount. In addition, direct material expense for prototype
materials was lower in the second quarter and first six months of fiscal 2001
from the comparable periods in fiscal 2000. Research and development expenses as
a percentage of total revenue increased to 22.1% from 16.9% quarter-over-quarter
and to 23.0% from 17.5% year-over-year. The increase in research and development
spending as a percentage of total revenue is principally the result of lower
revenue. We intend to focus research and development resources on development
and release of broadband technology offerings and as a result, we expect
spending to remain constant or increase slightly for the remainder of fiscal
2001
General and administrative expense decreased $119,000 to $3.4 million and
$594,000 to $6.6 million in the second quarter and first six months of fiscal
2001, respectively, from the comparable periods of fiscal 2000, and increased as
a percentage of total revenue to 7.9% from 5.4% quarter-over-quarter and to 7.7%
from 5.6% year-over year. The increase in general and administrative spending as
a percentage of total revenue is principally the result of lower revenue. We
expect general and administrative expenses to remain constant or decline
slightly for the remainder of the fiscal year as a result of a decline in
consulting expenses related to the divestiture of the Federal Services Business.
Amortization of goodwill and other intangible assets was $861,000 and $1.7
million in the second quarter and first six months of fiscal 2001, respectively.
The amortization is a result of two recent acquisitions, FlowWise Networks
10
<PAGE>
Inc. in the third quarter of fiscal 2000 and Convergence Equipment Company in
the first quarter of fiscal 2001. Goodwill and other intangibles will be
amortized on a straight-line basis over five years.
Other operating expense includes a credit for $158,000 in the second quarter of
fiscal 2001. The credit resulted from a change in estimates for a restructuring
charge accrued in fiscal 2000.
Non-Operating Items
Interest income, primarily related to short term investments, increased $250,000
and $650,000 in the second quarter and first six months of fiscal 2001,
respectively, from the comparable periods of fiscal 2000. The increase is
primarily the result of a shift in the investment portfolio from tax-exempt
securities to taxable securities that contain a higher yield.
Interest expense increased $100,000 and $147,000 in the second quarter and first
six months of fiscal 2001, respectively, from the comparable periods of fiscal
2000. Interest expense is comprised primarily of the expense related to the 7
1/4% convertible debentures. The increase is primarily related to debt
obligations assumed as part of the acquisition of FlowWise Networks, Inc. in the
third quarter of fiscal 2000.
Other expense, primarily related to currency gain or loss, increased $326,000 to
$442,000 in the second quarter of fiscal 2001 as compared to $116,000 in the
comparable period of fiscal 2000. Other expense was $10,000 in the first six
months of fiscal 2001 compared to a $7.5 million gain in the first six months of
fiscal 2000. The gain resulted from the sale of all of the equity securities
held in a publicly traded company.
Subsequent Event
On October 18, 2000 net.com entered into an agreement for the sale of its
federal services business ("FSB") assets to CACI International, Inc. ("CACI")
for a cash consideration of up to $40.0 million. The assets involved are
comprised mainly of federal government service contracts, accounts receivable,
spares inventory and fixed assets. The purchase price will be paid out over time
with $25.0 million payable at closing, $1.0 million six months after closing,
$1.0 million held in escrow and payable one year after closing and the remaining
$13.0 million payable contingent upon transfer to CACI of work performed under
certain net.com federal contracts. Additionally CACI and net.com will enter into
a royalty agreement whereby net.com and CACI will share in the increase in
maintenance revenue above an agreed upon base amount on net.com products. This
sale is subject to appropriate regulatory approvals and certain closing
conditions. It is expected to close in the quarter ending December 29, 2000.
LIQUIDITY AND CAPITAL RESOURCES
As of September 29, 2000, the Company had cash and cash equivalents of $22.6
million and short term investments of $102.3 million for a total of $124.9
million, as compared to a total of $124.9 million as of March 31, 2000. The cash
and cash equivalents decreased $5.4 million and the short term investments
increased $5.4 million in the first six months of fiscal 2000. The net operating
losses and the related effect on cash in fiscal 2001 was offset by the insurance
proceeds of $10.0 million received in the first quarter of fiscal 2001 as
discussed below.
Cash used by operations was $8.9 million during the first six months of fiscal
2001, compared to cash provided by operations of $5.5 million in the comparable
period from the prior year. The net decrease of $14.4 million year-over year was
primarily from the reported net loss of $12.9 million year to-date in fiscal
2001.
Net cash used by investing activities in the first six months of fiscal 2001 was
$8.4 million compared to net cash provided by investment activities of $31.4
million in the first six months of fiscal 2000. Net cash used for investing
activities in the first six months of fiscal 2001 consisted primarily of
purchases of short term investments of $33.4 million and additions to property
and equipment of $3.7 million, partially offset by net cash provided from
investing activities of $27.8 million from proceeds from maturities of short
term investments. Net cash provided by investing activities in the first six
months of fiscal 2000 consisted primarily of proceeds from maturities of short
term investments of $84.0 million, partially offset by net cash used for
investing activities of $48.5 million from purchases of short term investments
Net cash provided by financing activities in the first six months of fiscal 2001
was $10.8 million compared to net cash used for financing activities of $1.2
million in the first six months of fiscal 2000. The $12.2 million increase was
primarily related to insurance proceeds of $10.0 million, the first payment
associated with the settlement of construction defects at our Fremont campus.
Pursuant to our settlement agreement, we will be eligible to receive additional
insurance proceeds as a function of the costs incurred for moving and
replacement of tenant improvements. In addition, cash provided by financing
activities in the first six months of fiscal 2001 included $2.2
11
<PAGE>
million from the sale of common stock partially offset by the net cash used by
investment activities of $1.4 million from the repurchase of common stock.
The Board of Directors re-authorized a share repurchase program in October of
1999. During the first six months of fiscal 2001, 170,800 common shares at an
average price of $8.27 per common share were repurchased. We intend to continue
the share repurchase program in fiscal 2001 and from time to time will reenter
the market to repurchase shares.
We believe that we will be able to continue to fund operations, purchases of
capital equipment and research and development programs currently planned at
least through the next 12 months.
BUSINESS ENVIRONMENT AND RISK FACTORS
net.com's business is subject to the risks below. Although we have tried to
identify the material risks to our business, this is not an all-inclusive list.
There may be additional risks not listed because either they have not yet been
identified or they are not material now, although they could become material in
the future. Any one of the risks identified below could materially impact our
business, results of operation or financial condition.
net.com has lost money for the past five quarters and could incur losses in
future quarters
While we have been profitable in the past, for the past five quarters and for
seven out of the last eight quarters we have had losses. Our net loss totaled
$6.2 million for the second quarter of fiscal year 2001. We will continue to
incur large research and development, marketing and sales expenses to release
our new SCREAM(TM) product line. Although we have taken a number of measures to
reduce expenditures, our SCREAM expenditures mean we need to generate
significant revenues to achieve profitability. Since we do not foresee revenue
growth from our existing Promina product line, profitability will need to come
from the growth in revenue associated with the introduction of new products
including those recently acquired. Even if we do achieve profitability in a
future quarter, we cannot guarantee that that profitability will be sustainable.
Cash reserves may decrease if losses continue
Until we become profitable the risk of our cash reserves declining is
significant. Depletion of our cash reserves could negatively affect our stock
price.
Our operating results are likely to fluctuate thereby affecting our stock price
Our operating results may be subject to quarterly fluctuations as a result of
many different factors. Some of those factors include:
1) General economic conditions in the United States and abroad that can affect
capital spending decisions of our customers.
2) Decreased demand for our Promina circuit switched products due to a decline
in the markets for our technologies. We expect that in the future, net sales of
our Promina products will remain below what we experienced in previous years.
The market for circuit switched networking products appears to be decreasing,
possibly substantially, as commercial customers in the United States initially
and worldwide thereafter increasingly adopt packet or "broadband" technologies.
We cannot predict the speed at which the transition from circuit to packet
technologies will occur. The transition may occur more rapidly than we have
anticipated, which would cause quarterly fluctuations in product sales to
increase and could have other adverse effects on our financial results.
3) Market conditions including increased competition from our competitors' new
or enhanced products or the entry of new competitors in the markets we target.
4) Increases or decreases in our operating expenses. Most of our expenses are
fixed, rather than variable. As a result, any shortfall in revenue for a quarter
may materially impact our financial condition and results of operations.
5) Delays in introducing our new products to the market.
6) Our inability to ship products as ordered. This could be due to many factors
such as a shortage or delay in receiving component parts or other failures by
third party suppliers, or customers canceling orders or postponing shipments.
Our customers, including resellers, have the contractual right to delay
scheduled order delivery dates
12
<PAGE>
with minimal penalties and to cancel orders within specified time frames with no
penalty. Delays or cancellations make it difficult to predict when an order may
actually ship.
7) Our lack of backlogged product orders at the beginning of each quarter.
Historically, the majority of our revenue in each quarter has resulted from
orders received and shipped in that quarter. Neither in the fiscal year to date
or in the last fiscal year have we started a quarter with a sufficient amount of
backlogged orders to meet the sales forecast for that quarter. Because many
smaller networking equipment companies have the same ordering patterns yet still
see increased revenue growth, we do not believe that backlog is necessarily
indicative of future revenue levels. Without a backlog, we have been forced to
schedule production and commit to certain expenses based more upon forecasts of
sales, which are difficult to predict. Forecasting sales during a quarter is
difficult in part because a large portion of our orders historically have been
received and filled in the last month of the quarter. This ordering pattern
creates a significant risk of carrying too much or too little inventory if
orders do not match forecast. Furthermore, if large orders do not close when
forecasted or if near-term demand weakens for the products we have available to
ship, our operating results for that or subsequent quarters would be adversely
affected.
While it would be extremely difficult to list all the factors that can affect
revenues in a quarter or a fiscal year, the factors listed can have a
significant effect. Because of possible fluctuations resulting from these
various factors, results of operations in any one-quarter do not necessarily
indicate what results can be expected in future quarters. Future declines in
networking product sales for any reason could have a material adverse effect on
our business, financial condition or results of operations. Additionally, to the
extent that we do not achieve profitability in any given quarter or that our
forecasted revenue is below the expectations of the publicly traded markets, the
price of our common stock could fall, perhaps by a significant amount.
We expect gross margins to decline over future periods
Due to increases in competition, material and labor costs, subcontractor costs
and changes in the mix of products we sell, we expect that our gross margins
could decrease in future quarters. Some of our new products may have lower gross
margins than our Promina product line. In addition, if product sales decrease so
that service revenue becomes a larger part of overall revenue, overall margin
may decrease as service products traditionally have lower margins. Further, to
the extent we expand our sales through product resellers, reseller sales
generally result in lower gross margins because of the need to build in a margin
for the reseller. Prices for our component parts are also increasing due to
increased demand and an overall shortage of capacity in the semiconductor
industry. Any one of these factors or all of them in combination may decrease
our product margins or our margins overall.
Our need to obsolete our STM product line could impact revenue in future periods
Due to an inability to find parts needed to manufacture our STM product line, we
will be working with our customers to end of life this product line effective at
the end of fiscal year 2001. In the first half of fiscal 2001, STM accounted for
7.6% of our product revenue. We are not planning on replacing the STM with
another product line for that market. If revenue generated from our new products
is not sufficient to compensate for revenues lost from STM product sales, the
phase out of the STM product could impact our results of operations and
financial condition in future periods.
We are dependent in large part on the Promina product line until introduction of
net.com's SCREAM product line in full
Currently, we derive the majority of our product revenue from our Promina
product line, a circuit-based technology that will eventually be replaced
entirely by our packet based product line, net.com's SCREAM. We believe that
circuit-based technology generally is becoming obsolete, but we cannot foresee
when this obsolescence will become complete. While we work to develop our SCREAM
product line, we are dependent upon our Promina products to generate the bulk of
our revenue. Upon introduction of SCREAM, it will take time to develop the
market for this product. Our ability to complete development of net.com's SCREAM
product line and to successfully introduce that product to the market could
materially affect our financial condition and results of operation.
The move from circuit to packet based products appears to be happening more
quickly in the commercial markets in the United States than elsewhere in the
world. Up until last fiscal year, our largest market was traditionally the
United States. This is where we have seen the largest drop-off in commercial
product sales. Consequently, international sales will continue to account for a
significant portion of our Promina sales in future periods. International sales
tend to have risks that are difficult to foresee and plan for including
political and economic stability, regulatory changes, currency exchange rates,
tax rates and structures, and collection of accounts receivable. Unforeseen
events in various areas of the globe may have an adverse impact on us. Further,
our international markets are served primarily by non-exclusive resellers who
themselves may be severely impacted by
13
<PAGE>
economic or market changes within a particular country or region. Unforeseen or
unpredictable changes in international markets could have an adverse effect on
our business, results of operations and financial condition.
Growth in revenue is predicated upon timely release and market acceptance of our
SCREAM broadband product line
Although we believe the circuit switched product market to be declining, we
believe there is significant opportunity for growth in the packet switched
product market. That is why we have focused our research and development
activities on our new SCREAM broadband product line. We cannot guarantee,
however, that broadband product markets will grow as fast as we expect nor can
we guarantee that the market will readily adopt our product. If we fail to
release our broadband products on time, if our products do not have the features
and capabilities that the broadband market is looking for, or if our products
can not be competitively priced then our broadband product line may not generate
the revenue that we currently expect. That failure could materially adversely
affect our business, results of operations and financial condition.
Our customers and partners must focus on service creation and delivery for our
new SCREAM product to gain acceptance in the broadband access market
net.com's new SCREAM product focuses on allowing our customers to deliver
services to their customers. Service creation is a concept that is only just now
being seriously studied by our customers. While early indications are that this
is a significant product feature, if the move by our customers to adopt the
service creation model is slow or if our customers ultimately reject this as an
unneeded technology, then our SCREAM product may not be accepted or may be
accepted slowly by the broadband access market. In either case, a lack of
acceptance or a slower than anticipated acceptance could impact our forecasted
revenue.
In order to successfully market our SCREAM product, we will need to sign up both
software application partners and product resale partners. The software
application partners will provide the billing and other software needed to
create a total service creation solution for our customers. Product resale
partners will be needed to supplement and enhance our existing direct sales
force both in the US and overseas. While we have begun in earnest the process of
identifying and signing both software application and resale partners, more
partners in both these areas are needed. If we are unable to sign the needed
partners because they do not accept service creation as a needed technology or
for any other reasons, this could impact the overall success of SCREAM.
Sales of net.com's SCREAM product depends upon continued growth of the Internet
We expect our broadband product sales will grow in large part due to increasing
growth of the Internet. In addition, our SCREAM product is targeted at certain
markets, such as internet and application service providers, whose business
relies predominantly on the growth of the Internet. If the Internet does not
continue to grow, it would directly impact the market for broadband networking
equipment like SCREAM. In the future, it is possible that there will be problems
with the performance of Internet communications due to capacity limitations and
equipment or software failures. Should any of these failures be associated with
net.com equipment, our reputation as a supplier of reliable equipment would be
tarnished, whether justified or not. That could undermine our ability to sell
products into targeted markets.
A significant portion of our revenue is generated from sales to the Federal
government
A significant portion of our revenue from both product and services comes from
contracts with the U.S. government, most of which do not include purchase
commitments. While the transition from circuit to packet technology is slower in
the Federal market than in the commercial market, orders from the U.S.
government may not continue at historical levels, and it is possible that we
will not be able to obtain orders from new commercial customers to make up any
shortfall. The Federal market is characterized by rapid consolidation of
companies serving this market. As our federal contracts come up for renewal, the
government is tending to favor larger companies that can assume the role we
currently hold as primary contractor making us a subcontractor to a prime. If we
cannot find larger federal companies to partner with us on renewal of our
federal contracts, we could see a decrease in U.S. government orders and
resulting revenue. In addition, as a subcontractor, we often cannot offer the
same array of products at the prices we have in the past. This could lead to a
decrease in sales and related gross margin on those sales. Should U.S.
government orders substantially decline, it could have a material adverse effect
on our business, results of operations and financial condition.
14
<PAGE>
We cannot guarantee that our divestiture of our federal services business will
prove successful
At the beginning of the third quarter of fiscal year 2001, net.com entered into
an agreement to sell its Federal services business. Following the closing of the
sale, anticipated for the end of the third fiscal quarter of this fiscal year,
we will continue to sell net.com products directly to the Federal government and
will have also entered into a strategic alliance with the acquirer, CACI
International, to jointly market each other's products and services. This
divestiture will include both net.com Federal maintenance services and our
Federal professional services. While the intent of this planned divestiture is
to become a pure play networking equipment company with a focus on broadband, we
cannot be certain that it will have this result. For the divestiture to be
successful, we must overcome certain risks that involve both our ability to
receive the entire agreed upon cash consideration from CACI and our ability to
achieve the necessary focus on broadband. The risks affecting our ability to
receive the entire agreed upon compensation include the risk that CACI will not
be allowed to perform under certain government contracts services that are
currently performed by net.com and the risk that CACI will not be able to
generate sufficient revenue from performing maintenance services on net.com
products to enable net.com to receive a royalty payment. The risks affecting our
ability to becoming a pure play networking equipment company include a failure
by CACI to effectively perform maintenance services thereby requiring net.com to
reenter the federal maintenance services market, a failure by net.com to
sufficiently reduce cost in the remaining Federal product business to
counterbalance the loss of service revenue, or demands by CACI under the
strategic alliance agreement that end-up requiring us to focus on Federal
customers to the detriment of our commercial customers. If the divestiture of
our Federal services business proves unsuccessful, it could have an adverse
impact on our business, financial condition or results of operation.
Increased competition is likely in the future
The market for networking products is extremely competitive. Our specific
market, telecommunication equipment, is a highly competitive and dynamic market
characterized by the easy entrance of new start-up companies, rapid changes,
converging technologies and a worldwide migration from existing circuit
technology to the new packet based technologies. We compete directly both
internationally and domestically with many different companies, some of which
are large, established suppliers of end-to-end solutions such as Cisco, Lucent,
Nortel and others which are new start-up ventures. Many of the large suppliers
have greater financial, marketing and technical resources and offer a wider
range of networking products than we have. They are often able to devote greater
resources to the development, marketing and sale of their products and to use
large market capitalizations or significant cash to acquire other companies with
technology and/or products that are competitive with ours. They often can
compete favorably on price because their large product selection allows them to
decrease the price for any individual product without significantly impacting
their overall product margins. Small start-up ventures are better able to devote
all their resources to a particular product development unencumbered by the
requirements to support an existing product line. As a result of the market's
favorable reaction to recent initial public offerings by technology companies,
start-ups also often have large market capitalizations allowing them easy access
to capital which could be used for various growth activities including funding
competitive acquisitions. Through these acquisitions, competitors can obtain
strategic advantages that may adversely affect our business, financial condition
or results of operations.
To remain competitive, we need to develop new products that meet the
ever-changing needs of the networking market but that can be sold at a
competitive price. We also must enhance our current products to provide needed
features that increase the overall value proposition for the customer while
keeping the price competitive. Due to the competitive nature of the market and
the relative age of our current product offerings, we may not be able to
maintain prices for our products at levels that will sustain profitability over
the short or long term.
Our inability to sign competitive resale partners internationally could
significantly affect future product and service revenue
Because the transition from circuit to packet technology is slower outside the
United States, we expect international sales will continue to account for a
significant portion of our Promina product sales in future periods. Resellers
whose territories correspond to a particular geographic region that is not
exclusive to that reseller generate most international sales. Resellers do not
have minimum purchase requirements that they must meet. While we require our
resellers to use their best efforts to resell our products, because our product
line is small, our resellers must often resell product lines from other
networking companies including our competitors such as Cisco, in order to
sustain a profit. Because of Cisco's size and dominant position in the network
equipment market, it is difficult to find a reseller who does not resell Cisco
products. Due to the difficulty of signing up resellers without pre-existing
competitive relationships, our resellers are not always successful in promoting
our products thereby impacting the sustainability of our international product
sales. If we cannot develop relationships with resellers that can effectively
market and sell our products and services, we may not be able to meet our
forecasted sales and revenue in future quarters.
15
<PAGE>
Our Latin America sales may continue at depressed levels
Sales in Latin America have largely been through strategic international resale
partners, primarily IBM and Ericsson Networks, rather than through local
resellers. Our reseller relationship with IBM ended in late calendar 1997. In
Latin America, Ericsson Networks has focused on marketing and selling its own
internally developed products. The decline of these two relationships has
significantly impacted product revenue in Latin America. If we cannot find other
resale channels, our Latin American sales may continue at current or decreased
levels thereby impacting our business, results of operations and financial
condition.
Our products have long sales cycles making it difficult to predict when a
customer will place an order and when to forecast revenue from the related sale
Our products are very complex pieces of networking equipment and represent a
significant capital expenditure to our customers. The purchase of our products
can have a significant impact on how a customer designs its network and provides
services either within its own organization or to an external customer.
Consequently, our customers often engage in extensive testing and evaluation of
products before purchase. There are also numerous financial and budget
considerations and approvals that often must be obtained before a customer will
issue a purchase order. As a result, the length of our sales cycle can be quite
long, up to a year in some cases. While customers may tell us that they are
planning to purchase our products, to ensure a purchase order is placed, we
often must incur substantial sales and marketing expense. If the order is not
placed in the quarter forecasted because approvals took longer than anticipated
by the customer, our sales may not meet forecast and revenues may be
insufficient in that quarter to meet expenses.
We face greater credit risk from some of our new customers
Historically, our customers have tended to be large established companies who
either used our products to develop their own wide area network or were
telephone companies using our products to allow their customers to access their
regional or national network. In the past two years, our customers have changed
to now include smaller, start-up telecommunications companies. Because these
start-up companies typically do not have either long operating histories or
significant capitalization, traditional lending sources are often not available
to them. Because financing assistance from the manufacturer is often required to
consummate the transaction, these companies frequently make purchasing decisions
in part on the ability of an equipment manufacturer to provide financing
assistance to them in deploying their network infrastructure. We have had a
leasing program originally with Bank Boston and now with Marcap to assist these
customers with their financing requirements. This program includes a loss
sharing provision with the lessor. In addition, we entered into a loss sharing
agreement with one of our resellers wherein we share in a percentage of any loss
arising from a customer's failure to pay the reseller for our equipment. Both of
these programs are for United States based companies only. Although we have not
experienced significant losses to date from customers failing to meet their
obligations, should a significant number of lessees or customers in any one loss
sharing pool or should one large lessee or customer default, it could have a
material adverse effect on our business, results of operations and financial
condition.
If we are unable to hire qualified new employees or to retain existing
employees, then we may not be able to successfully manage our business
As with all technology companies, our success is dependent on being able to
attract and retain highly skilled engineers, managers and other key employees.
In particular, we have seen a large turnover in our direct sales force in North
America. This turnover has impacted our ability to sell products in the United
States. The current tight job market has made competition for employees very
intense for all employers. The large job growth in the San Francisco Bay Area
and the competition for employees from companies able to offer greater
compensation incentives through either options for stock with a perceived higher
growth value than net.com, or offering a large equity interest in a pre-IPO
start-up company has made it difficult for many departments in net.com including
Marketing and Engineering to attract and recruit new employees in a timely
manner. While we have put additional focus and resources into our recruitment
activities and have taken steps including compensation and other incentives that
we hope will mitigate these competitive advantages, we cannot say that in the
current economy, our increased efforts will substantially improve the
recruitment and retention issues faced by our company at this time. Our
inability to attract, recruit and retain key personnel, particularly engineers,
sales and marketing employees, could impact our ability to meet important
company objectives such as product delivery deadlines and sales targets. That in
turn could significantly impact our business, results of operations and
financial condition.
16
<PAGE>
We rely on a number of sole source suppliers for our component parts
For both net.com's Promina and new SCREAM product lines, we purchase key
components from single source suppliers, in particular, our back planes, ASICS
and power supplies. If one of these suppliers were no longer able to supply a
required component, it could result in our having to significantly reengineer
the affected product. Further, due to increased demand and a shortage of
capacity in the semiconductor industry, lead times for ordering parts have
increased. If we encounter shortages or delays in receiving ordered components
or if we are not able to accurately forecast our ordering requirements, this
could adversely impact our ability to ship ordered products and could ultimately
negatively impact our results of operations and financial condition.
We single source our manufacturing process so that a failure or delay by that
vendor could impact our ability to timely ship our products
We currently subcontract some testing and all product manufacturing to one
company, Solectron. Final test and assembly is generally performed at our
Fremont, California facility. While subcontracting creates substantial cost
efficiencies in the manufacturing process, it also exposes us to delays in
product shipments should Solectron be unable to perform under our contract. In
addition, should Solectron in some future period decide not to renew our
contract with them, it would be difficult for us to quickly transfer our
manufacturing requirements to another vendor likely causing substantial delays
in customer product shipments and impacting revenue and our results of
operations.
To maintain our competitive advantage, we need to protect our intellectual
property from infringement by others
Our future success is dependent upon our ability to develop new products
superior to those of our competitors. We have an aggressive program in place to
patent our intellectual property and protect it from infringement by
competitors. In addition, we take measures to protect our trade secret
information from disclosure by third parties and current and former employees.
Despite our concerted efforts in these areas, we cannot guarantee our patents
will issue or that we will be able to protect our trade secrets from disclosure.
Even if a patent does issue, we cannot guarantee that it will not later be found
invalid or infringed without our knowledge. In particular, with the movement of
employees from competitor to competitor, it may be inevitable that trade secret
information will be disclosed at some point and used in product development.
Monitoring unauthorized use of our technology and trade secrets is extremely
difficult. If our technology or trade secret information is disclosed to a
competitor, it may not be possible for us to prove infringement or
misappropriation sufficiently for a court to take actions necessary to protect
us. If a competitor gained an advantage through infringement and/or
misappropriation of our trade secrets, it could seriously impact our competitive
position in the market and ultimately our financial condition.
We are subject, and may again be subject, to claims that our technology
infringes another's intellectual property
Over the past decade, many companies have developed a business model where they
seek to increase their revenues by claiming infringement of one or more of their
patents. A number of these companies are large with extensive patent portfolios
developed because of their actual monopoly or near monopoly positions in certain
markets. These companies approach other companies and attempt to coerce them
into a licensing agreement by threatening to use their resources and patent
portfolio in never ending claims of infringement against their many patents.
While we have patents in our portfolio that we consider valuable, we do not have
an extensive enough portfolio to easily defend against these accusations of
infringement. Even if the infringement claims are without merit, defending
against these claims is time consuming and expensive especially for a small
company such as net.com and takes us away from the focus of our business. In
every case, we may not be able to successfully negotiate a licensing agreement
or the third party may institute litigation against us. In addition, if we were
required to pay royalties to an ever-increasing number of companies, it could
impact our financial condition and results of operation.
We need to continue to license products from third parties
For both our Promina and SCREAM products, we license some of our technology from
third party suppliers. If the relevant licensing agreement expires or is
terminated without our being able to renew that license, that failure to renew
the license could impact our ability to market the affected product and that, in
turn, could materially impact our results of operations and financial condition.
17
<PAGE>
Domestic or foreign regulations of telecommunications or the Internet could
impact our ability to sell our products
As a telecommunications networking equipment manufacturer, our customers
worldwide often work within a regulated environment. That in turn requires us to
develop products that meet their regulatory requirements. Regulations usually
vary to a certain extent from country to country. For example, in many
countries, our Promina products require homologation certification in order to
connect to the public networks. If we do not comply with existing or evolving
regulations or if our products fail to obtain appropriate regulatory approvals
where required, it would impact our ability to sell our products in those
markets.
In addition, there are currently few laws or regulations that govern access or
commerce on the Internet. If individual countries, or groups of countries acting
in concert began to impose regulations or standards on Internet access or
commerce including voice over IP, this could materially impact our ability to
sell our new SCREAM or other new products if the regulations or standards
resulted in decreased demand or increased costs for our products. This, in turn,
could have a material adverse effect on our business, results of operations and
financial condition.
18
<PAGE>
Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
There has been no material change from the information as reported in the Form
10-K for the fiscal year ended March 31, 2000. Refer to the Quantitative and
Qualitative Disclosures section in the Form 10-K for fiscal year ended March 31,
2000 for information on the financial instruments.
19
<PAGE>
PART II.
OTHER INFORMATION
Item 4. Submission of Matters to Vote of Security Holders
On August 8, 2000, the Company held its Annual Meeting of Stockholders. At this
meeting, the stockholders voted to elect Walter J. Gill and Hubert A. J. Whyte
as directors. Walter J. Gill received 18,941,044 votes in favor and 143,342
votes withheld. Hubert A. J. Whyte received 18,968,328 votes in favor and
116,058 votes withheld. Continuing as directors are Dixon R. Doll, James K.
Dutton, George M. Scalise, Peter Sommerer and Hans A. Wolf. At the meeting, the
stockholders also voted to ratify the appointment of Deloitte & Touche LLP as
independent public accountants of the Company for the fiscal year ending March
31, 2001 as follows: 19,054,460 votes in favor, 7,141 votes against, and 22,785
votes abstaining.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10 Asset Acquisition Agreement dated October 18, 2000 by and
among CACI, Inc.-Federal, CACI International Inc, N.E.T.
Federal, Inc., and Network Equipment Technologies, Inc.
27 Financial Data Schedule
(b) Report on Form 8-K
None
20
<PAGE>
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.
NETWORK EQUIPMENT
TECHNOLOGIES, INC.
Dated: November 13, 2000 /s/ Hubert A.J. Whyte
---------------------------------
Hubert A.J. Whyte
President and Chief Executive Officer
/s/ John C. Batty
---------------------------------
John C. Batty
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
21
