SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
__X___ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2000
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
----- THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________________________________
Commission File Number: 0-8354
nSTOR TECHNOLOGIES, INC.
(Exact name of Registrant as specified in its Charter)
Delaware 95-2094565
-------- ----------
(State of other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10140 Mesa Rim Road
San Diego, CA 92121
(Address of principal executive office)
(858) 453-9191
--------------
(Registrant's telephone number)
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 _____
Number of shares outstanding of the Registrant's Common Stock,
par value $.05 per share, as of October 31, 2000: 35,128,631
<PAGE>
nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
Page
Number
PART I. FINANCIAL INFORMATION 3
Item 1. Financial Statements
Consolidated Balance Sheets as of September 30,
2000 (Unaudited) and December 31, 1999 3
Consolidated Statements of Operations
(Unaudited) for the three and nine months
ended September 30, 2000 and 1999 4
Consolidated Statements of Stockholders'
Equity (Unaudited) for the nine months
ended September 30, 2000 5
Consolidated Statements of Cash Flows
(Unaudited) for the nine months ended
September 30, 2000 and 1999 6
Notes to Consolidated Financial Statements
(Unaudited) 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 14
Item 3. Quantitative and Qualitative Disclosures about
Market Risk 20
Part II. OTHER INFORMATION 20
SIGNATURE 22
<PAGE>
PART 1. FINANCIAL INFORMATION
Item 1. Financial Statements
nSTOR TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
(dollars in thousands)
<TABLE>
<CAPTION>
September 30,
2000 Dec. 31,
ASSETS (unaudited) 1999
------ --------- --------
<S> <C> <C>
Current assets:
Cash and cash equivalents ........................ $ 59 $ 650
Accounts receivable, net ......................... 6,204 7,326
Inventories ...................................... 7,921 6,288
Prepaid expenses and other ....................... 1,490 1,637
------- -------
Total current assets .......................... 15,674 15,901
Property and equipment, net ........................ 2,611 3,476
Goodwill and other intangible assets, net .......... 14,995 14,533
Other assets ....................................... 58 131
------- -------
$33,338 $34,041
LIABILITIES ======= =======
-----------
Current liabilities:
Bank line of credit .............................. $ 5,621 $ 5,111
Notes payable .................................... 1,800 1,585
Deferred revenue ................................. 2,641 2,426
Accounts payable and other ....................... 10,427 12,317
------- -------
Total current liabilities ..................... 20,489 21,439
Long-term debt ..................................... 5,100 6,329
------- -------
Total liabilities ............................. 25,589 27,768
------- -------
STOCKHOLDERS' EQUITY
--------------------
Preferred stock, $.01 par; shares authorized 1,000,000
in order of preference:
Convertible Preferred Stock(aggregate liquidation
value $1,000 per share except for Series A which is
$600 per share) issued and outstanding at September
30, 2000 and December 31, 1999; Series F, 872 and
4,054; Series A, 0 and 1,667; Series C, 0 and 3,000;
Series D, 2,000 and 2,700; Series E, 3,500 - -
Common stock, $.05 par; shares authorized 75,000,000;
35,128,631 and 26,517,824 shares issued and outstanding
at September 30, 2000 and December 31, 1999,
respectively ..................................... 1,755 1,331
Additional paid-in capital ......................... 69,036 63,164
Deficit ............................................ (63,042) (58,222)
------- -------
Total stockholders' equity .................... 7,749 6,273
------- -------
$33,338 $34,041
======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
nSTOR TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
2000 1999 2000 1999
(unaudited) (unaudited)
------------------ ------------------
<S> <C> <C> <C> <C>
Sales ..................................... $ 9,508 $17,546 $32,913 $28,355
Cost of sales ............................... 7,070 12,531 23,511 22,020
------- ------- ------- -------
Gross profit ............................ 2,438 5,015 9,402 6,335
------- ------- ------- -------
Operating expenses:
Selling, general and administrative.......... 3,840 4,639 12,508 9,521
Research and development ..................... 876 835 2,498 2,053
Depreciation and amortization ................ 1,129 1,124 3,391 2,102
------ ------- ------- -------
Total operating expenses 5,845 6,598 18,397 13,676
------ ------- ------- -------
Loss from operations .................... (3,407) (1,583) (8,995) (7,341)
Gain on sale of assets of Borg
Adaptive Technologies (Note 2) .............. - - 5,575 -
Other (expense) income, net ................... (294) 186 87 330
Interest expense .............................. (327) (650) (941) (1,451)
------ ------- ------- -------
Net loss ...................................... (4,028) (2,047) (4,274) (8,462)
Preferred stock dividends ..................... (143) (300) (546) (606)
Embedded dividends attributable to
beneficial conversion privileges and
warrants issued in connection with
Convertible Preferred Stock ................. - (6) - (332)
------ ------ ------- -------
Net loss applicable to common stock........... ($4,171) ($2,353) ($4,820) ($9,400)
======= ======= ======= =======
Basic and diluted net loss per
common share ($ .12) ($ .10) ($ .15) ($ .43)
======= ======= ======= =======
Average number of common shares
outstanding, basic and diluted 34,696,761 22,692,189 31,978,121 21,895,876
========== ========== ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
nSTOR TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(dollars in thousands)
<TABLE>
<CAPTION>
Preferred Addi-
Common Stock Stock tional
----------------- ------------- Paid-In
Shares Amount Shares Amount Capital Deficit Total
---------- ------ ------ ------- ------- ------- ------
<S> <C> <C> <C> <C> <C> <C> <C>
Balances, December 31
1999 26,517,824 $1,331 14,921 $ - $63,164 ($58,222) $6,273
Issuance of common stock
in connection with:
Conversion of
Convertible
Preferred Stock
Series A 1,666,667 83 (1,667) - (83) -
Series C 3,000,000 150 (3,000) - (150) -
Series D 700,000 35 (700) - (35) -
Series F 1,060,800 53 (3,182) - (53) -
Acquisition of assets
of OneofUs 776,119 39 2,561 2,600
Satisfaction of borrowings 296,296 15 985 1,000
Commitment to terminated
executives 123,479 - - -
Exercise of options and
warrants 635,589 32 1,145 1,177
Equity line of credit
net of costs of $87 351,857 17 684 701
Compensation expense
resulting from
modifications to stock
options and warrants in
connection with the sale
of assets of Borg Adaptive
Technologies 818 818
Preferred stock dividends (546) (546)
Net loss for the nine months
ended September 30, 2000 (4,274) (4,274)
--------- ------ ------ ----- ------- ------- -------
Balances, September
30, 2000 (unaudited) 35,128,631 $1,755 6,372 $ - $69,036 ($63,042) $7,749
========== ====== ====== ====== ======= ======= ======
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
nSTOR TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Nine Months
Ended September 30,
-------------------
2000 1999
(unaudited) (unaudited)
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ($ 4,274) ($ 8,462)
Adjustments to reconcile net loss to net
cash used by operating activities:
Gain on sale of assets of Borg Adaptive
Technologies (5,575) -
Amortization of intangible assets 1,918 879
Depreciation 1,472 1,223
Provision for losses on accounts receivable 32 883
Provision for inventory obsolescence 100 782
Amortization of deferred financing costs and other 21 584
Changes in assets and liabilities, net of effects
from acquisitions:
Decrease (increase) in accounts receivable 750 (669)
(Increase)decrease in inventories (2,119) 516
Decrease in prepaid expenses and other 103 16
Decrease in accounts payable and other (772) (942)
-------- --------
Net cash used by operating activities (8,344) (5,190)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net proceeds from sale of assets of Borg Adaptive
Technologies 7,013 -
Additions to property and equipment (641) (337)
Cash paid for acquisitions (293) (1,058)
-------- --------
Net cash provided (used) by investing activities 6,079 (1,395)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds (repayments) from revolving credit
facilities 510 (2,267)
Additions to other borrowings 1,650 6,880
Repayment on other borrowings (1,685) (1,990)
Issuance of preferred stock, net of transaction costs - 1,962
Proceeds from exercise of stock options and
warrants 1,177 1,576
Issuance of common stock, net of transaction costs 701 1,000
Cash paid for preferred stock dividends (679) (488)
-------- --------
Net cash provided by financing activities 1,674 6,673
-------- --------
Net (decrease) increase in unrestricted cash and
cash equivalents during the period (591) 88
Unrestricted cash and cash equivalents at the
beginning of the period 650 147
-------- --------
Unrestricted cash and cash equivalents at the
end of the period $ 59 $ 235
======== ========
<PAGE>
nSTOR TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(concluded)
Nine Months
Ended September 30,
-----------------------
2000 1999
(unaudited) (unaudited)
----------- -----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during period for interest $ 829 $ 944
======== ========
SUPPLEMENTAL DISCLOSURE OF NON-CASH ACTIVITIES:
NON-CASH INVESTING ACTIVITIES:
Acquisitions (Note 2):
Fair value of assets acquired $ 2,938 $ 27,940
Liabilities assumed or incurred (45) (21,882)
Series F Convertible Preferred Stock issued - (4,654)
Common stock issued (2,600) (146)
Warrants issued - (200)
-------- --------
Cash paid $ 293 $ 1,058
======== ========
NON-CASH FINANCING ACTIVITIES:
Issuance of common stock in satisfaction of
borrowings $ 1,000 $ 1,290
======== ========
Issuance of preferred stock in satisfaction
of borrowings $ - $ 1,500
======== ========
See accompanying notes to consolidated financial statements.
<PAGE>
nSTOR TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation and Basis of Presentation
The consolidated financial statements include the accounts of nStor
Technologies, Inc. and all wholly-owned subsidiaries (collectively, the
"Company"). Significant intercompany balances and transactions have been
eliminated in consolidation.
In the opinion of management, the unaudited consolidated financial
statements furnished herein include all adjustments, consisting only of
recurring adjustments necessary for a fair presentation of the results of
operations for the interim periods presented. These interim results of
operations are not necessarily indicative of results for the entire year. The
consolidated financial statements contained herein should be read in conjunction
with the consolidated financial statements and related notes contained in the
Company's 1999 Annual Report on Form 10-K.
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required for complete financial statements. Certain items in the
consolidated financial statements for the interim periods ended September 30,
1999 have been reclassified to conform with the current presentation. These
reclassifications had no impact on operating results previously reported.
Business
The Company is engaged as a manufacturer and supplier of high-availability,
high-performance enterprise-class Storage Area Network (SAN) solutions for
computer operating systems including the Windows NT, UNIX and Linux platforms.
Designed for storage-intensive environments such as the Internet or other
mission-critical applications, the Company's products include Fibre Channel and
SCSI RAID-ready solutions, non-RAID storage products, tape and advanced storage
management software solutions. The Company markets its products through a direct
sales force and a global network of reseller and original equipment manufacturer
(OEM) partners.
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 amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Net Loss Per Common Share ("EPS")
The effect of including potentially dilutive securities in the EPS
calculation would have been anti-dilutive. Accordingly, basic and diluted EPS
for all periods presented are equivalent.
<PAGE>
The following table presents an analysis of the Company's outstanding
securities as of September 30, 2000, including 8,726,831 outstanding potentially
dilutive securities:
Common shares outstanding 35,128,631
Potentially dilutive securities:
Convertible preferred stock 3,457,199
Stock options and warrants 5,109,632
Convertible notes 160,000
---------
8,726,831
----------
43,855,462
==========
Recent Accounting Pronouncement
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 133 "Accounting for Derivative Financial Instruments and Hedging
Activities." SFAS No. 133 establishes accounting and reporting standards
requiring that every derivative instrument (including certain derivative
instruments embedded in other contracts) be recorded in the balance sheet as
either an asset or a liability measured at its fair value. SFAS No. 133 requires
that changes in the derivative's fair value be recognized currently in earnings
unless specific hedge accounting criteria are met. Special accounting for
qualifying hedges allows a derivative's gains and losses to offset related
results on the hedged item in the income statement, and requires that a company
must formally document, designate, and assess the effectiveness of transactions
that receive hedge accounting. SFAS No. 133, as amended by SFAS No. 137, is
effective for years beginning after June 15, 2000. We have not yet quantified
the impact of adopting SFAS No. 133 on our financial statements and have not
determined the timing of or method of its adoption of SFAS No. 133. However,
SFAS No. 133 could increase volatility in earnings and other comprehensive
income.
(2) ACQUISITION OF ASSETS OF ONEOFUS COMPANY, LTD.
On January 19, 2000, the Company acquired substantially all of the assets
of OneofUs Company Limited (OneofUs) for an aggregate purchase price of $2.9
million, consisting of $.3 million cash and 776,119 shares of the Company's
common stock with an aggregate value of $2.6 million (based on the average of
the closing prices of the Company's stock during the ten (10) trading days ended
January 19, 2000). The shares were issued to four selling stockholders pursuant
to employment agreements or a confidentiality, noncompetition and
nonsolicitation agreement. OneofUs was a Taiwan-based, privately-held designer
of high performance Fibre Channel RAID controllers and storage solutions for
open systems and the SAN market.
The acquisition of OneofUs has been accounted for using the purchase method
of accounting with assets acquired and liabilities assumed recorded at their
fair values as of the date of acquisition. Allocation of the purchase price has
been made on a preliminary basis subject to adjustment should new or additional
facts about the business become known. The excess of the purchase price over the
fair value of net assets acquired (goodwill) approximated $2.8 million and is
being amortized over seven years.
<PAGE>
(3) BALANCE SHEET COMPONENTS (in thousands)
Substantially all assets are pledged as collateral for indebtedness (Note 4).
September 30,
2000 Dec. 31,
(unaudited) 1999
--------- ---------
Accounts Receivable:
Trade receivables ................................ $ 6,805 $ 8,759
Less allowance for doubtful accounts ............. (810) (1,604)
------- -------
5,995 7,155
Other receivables ................................ 209 171
------- -------
$ 6,204 $ 7,326
======= =======
Inventories:
Raw materials .................................... $ 6,933 $ 4,942
Work-in-process .................................. 227 454
Finished goods ................................... 761 892
------- -------
$ 7,921 $ 6,288
======= =======
Inventories are stated at the lower of cost or market, with cost being
determined based on the first-in, first-out (FIFO) method. Reserves are recorded
as necessary to reduce obsolete and slow moving inventory to estimated net
realizable value.
Prepaid expenses and other:
Prepaid service costs ............................ $ 1,355 $ 1,174
Other ............................................ 135 463
------- -------
$ 1,490 $ 1,637
======= =======
Property and Equipment:
Computer equipment ............................... $ 4,652 $ 4,075
Computer software ................................ 770 770
Leasehold improvements ........................... 839 788
Furniture, fixtures and office equipment ......... 355 465
Other ............................................ 310 310
------- -------
6,926 6,408
Less accumulated depreciation
and amortization ............................... (4,315) (2,932)
------- -------
$ 2,611 $ 3,476
======= =======
Property and equipment are stated at cost. Depreciation is provided under
the straight-line method over the estimated useful lives, principally five
years. Leasehold improvements are amortized on a straight-line basis over the
shorter of the useful life of the asset or the lease term. Depreciation and
amortization of property and equipment amounted to $.5 million and $1.5 million
for the three and nine months ended September 30, 2000, respectively, and $.3
million and $1.2 million for the three and nine months ended September 30, 1999,
respectively.
<PAGE>
September 30,
2000 Dec. 31,
(unaudited) 1999
---------- ---------
Goodwill and Other Intangible Assets:
Goodwill ....................................... $ 17,787 $ 15,497
Intellectual assets ............................ 347 347
-------- --------
18,134 15,844
Less accumulated amortization .................. (3,139) (1,311)
-------- --------
$ 14,995 $ 14,533
======== ========
Goodwill represents the excess cost of acquired businesses over the fair
value of net assets acquired and is principally amortized over seven years.
Intellectual assets consist of trademarks and proprietary technology and are
being amortized over 15 years. Amortization of goodwill and other intangible
assets amounted to $.6 million and $1.9 million for the three and nine months
ended September 30, 2000, respectively, and $.1 million and $.9 million for the
three and nine months ended September 30, 1999, respectively.
Accounts payable and other:
Accounts payable ............................... $ 5,297 $ 8,072
Accrued liabilities and other .................. 5,130 4,245
------- -------
$10,427 $12,317
======= =======
(4) Borrowings
Short-Term Debt
Revolving Credit Facility ("Bank Line of Credit")
The Bank Line of Credit, as amended, provides for borrowings based on the
lesser of $10 million or: (i) 85% of eligible accounts receivable, as defined,
plus (ii) the lesser of $1.75 million or 23% of eligible inventory, as defined.
Effective April 14, 2000 (see below), interest under the Bank Line of Credit was
increased from prime (9.5% at September 30, 2000) plus .5 percent to prime plus
1.5 percent. The Bank Line of Credit matures in April 2002, requires a facility
fee of .25% based on the average unused portion of the maximum borrowings, is
collateralized by substantially all of the Company's assets and provides for
certain financial covenants, including minimum net worth and net income
requirements. As of September 30, 2000, the outstanding balance of the Bank Line
of Credit was $5.6 million and an additional approximately $.4 million was
available based on eligible collateral.
During the first quarter of 2000, the Company was not in compliance with
the minimum net worth covenant of the Bank Line of Credit and, as a result, was
in technical default. On March 29, 2000, the lender agreed to waive that default
and effective April 14, 2000, the Company and the lender agreed to amend certain
terms of the Bank Line of Credit, including an increase in the interest rate to
prime plus 1.5% and new minimum net worth and net income covenants on a
consolidated basis. The amended agreement was executed on September 14, 2000. At
September 30, 2000, the Company was not in compliance with the new minimum net
worth and net income requirements and is in technical default under the
compliance provisions of the Bank Line of Credit. The Company is currently in
discussions with the lender to amend the financial covenants. Management
believes it will be successful in such discussions, however, there can be no
assurance of this success nor that management would be successful in finding a
replacement lender with acceptable terms.
<PAGE>
Notes Payable
Director Loans
At December 31, 1999, current borrowings included $1.6 million due to H.
Irwin Levy, Chairman of the Board of Directors and a principal stockholder of
the Company ("Mr. Levy"), representing the maximum amount available under a
revolving line of credit facility which bore interest at 10% per annum, due 30
days from demand. In January 2000, the promissory note was paid off and
satisfied in full. Effective April 12, 2000, Mr. Levy and/or a company
controlled by Mr. Levy, agreed to commit to a $2 million revolving line of
credit facility to the Company, which was increased to $2.5 million, effective
July 31, 2000 and to $3.3 million, effective October 11, 2000. The commitment
matures on April 30, 2001. Advances under this commitment bear interest at 10%
per annum and amounted to $1.6 million as of September 30, 2000 (consisting of
$1.7 million advanced and $.1 million repaid). As of October 31, 2000, the
outstanding balance under this commitment was $2.6 million.
Note Payable
Other current borrowings at September 30, 2000 include a note payable in
the amount of $.3 million which bears interest at 10% per annum and matures in
September 2001.
Long-Term Debt
At September 30, 2000, long-term debt consisted of $5.1 million which bears
interest at 9.5% per annum and matures in June 2004. On April 26, 2000, the
Company issued 296,296 shares of its common stock in full satisfaction of $1
million of debt which was scheduled to mature in September 2001.
(5) CONVERTIBLE PREFERRED STOCK
At December 31, 1999, the Company had five classes of convertible preferred
stock (Series A, C, D, E and F) with an aggregate stated value of $14.3 million.
During the nine months ended September 30, 2000, preferred stock with an
aggregate stated value of $7.9 million was converted into 6,427,467 shares of
the Company's common stock, thereby reducing the aggregate stated value at
September 30, 2000 to $6.4 million, convertible into 3,457,199 shares,
consisting of the following:
Series D preferred stock, with an aggregate stated value of $2 million at
September 30, 2000, accrues dividends at 8% per annum, payable quarterly, is
convertible at any time into an aggregate of 2,000,000 shares of the Company's
common stock, and has an automatic conversion feature in which each share not
converted by October 2001 is automatically converted into common stock. Series E
and F preferred stock, with an aggregate stated value of $4.4 million at
September 30, 2000, currently accrues dividends at 9% (10% commencing June 8,
2001), and is convertible at any time into an aggregate of 1,457,000 shares of
the Company's common stock. At September 30, 2000, a company controlled by Mr.
Levy held Series E preferred stock with an aggregate stated value of $1.5
million convertible into 500,000 shares of the Company's common stock.
Series C preferred stock with a stated value of $3 million, held by Mr. Levy,
accrued dividends at 8% per annum, payable quarterly. In accordance with an
automatic conversion feature, in July 2000, the Series C preferred stock was
automatically converted into 3,000,000 shares of the Company's common stock.
<PAGE>
(6) COMMON STOCK
On May 9, 2000, the Company entered into an agreement with a private
investment group granting the Company a one-year $15 million equity line or
equity draw down facility. The agreement does not obligate the Company to draw
any of the funds. Once per draw down period, the Company may request a draw of
up to $5 million, subject to a formula based on average stock price and average
trading volume, setting the maximum amount of any request for any given draw.
The amount of money that the investment group will provide to the Company and
the number of shares the Company will issue to the investment group in return
for that money is settled on a weekly basis during a 22 day trading period
following the draw request based on a formula as defined in the stock purchase
agreement. The investment group receives a 7% discount to the market price for
the 22 day period and the Company receives the settled amount of the draw down
less a 4% fee payable to the placement agent. In connection with this agreement,
the Company granted the investment group and the placement agent three year
warrants to purchase an aggregate of 220,000 shares of the Company's common
stock at an exercise price of $3.60 per share, representing 120% of the average
of the closing prices of the Company's common stock for the five trading days
before May 9, 2000.
The Company registered for resale the securities to be sold pursuant to the
draw downs and warrants.
As of September 30, 2000, the Company has issued 351,857 shares of common
stock and received net proceeds of $.8 million pursuant to this agreement. In
the accompanying Statement of Stockholders' Equity, the approximate $87,000 of
transaction costs incurred to complete this agreement has been charged to
additional paid-in capital.
(7) GAIN ON SALE OF ASSETS OF BORG ADAPTIVE TECHNOLOGIES
On January 10, 2000, the Company sold substantially all of the assets of
Borg Adaptive Technologies, Inc., a wholly-owned subsidiary of the Company, to a
wholly-owned subsidiary of QLogic Corporation, for $7 million cash (net of
approximately $.5 million of transaction costs - the "Borg Sale"). The assets
included all of the intellectual property rights relating to the Company's
Adaptive RAID technology, including software, patents and trademarks, and
certain tangible assets, including test and office equipment and tenant
improvements, subject to the right of the Company to the use of all intellectual
property for its own use. In connection with the Borg Sale, the Company recorded
a gain of $5.6 million, net of compensation expense of $.8 million resulting
from modifications to certain stock options and warrants.
(8) INCOME TAXES
The Company accounts for income taxes in accordance with SFAS 109, which
requires recognition of deferred tax assets and liabilities for the expected
future tax consequences of events that have been included in the financial
statements or tax returns. Under the SFAS 109 asset and liability method,
deferred tax assets and liabilities are determined based upon the difference
between the financial statement and tax bases of assets and liabilities using
enacted tax rates in effect for the year(s) in which the differences are
expected to reverse.
As of December 31, 1999, there were unused net operating loss carryforwards
(the "NOL's") for regular federal income tax purposes of approximately $36
million and California tax purposes of approximately $4.7 million expiring from
2012 through 2019 and 2001 through 2004, respectively. In addition, the Company
has research and development tax credit carryforwards of approximately $1.4
million which expire from 2002 through 2019 and in conjunction with the
Alternative Minimum Tax ("AMT") rules, the Company has available AMT credit
carryforwards of approximately $.8 million, at December 31, 1999, which may be
used indefinitely to reduce regular federal income taxes.
<PAGE>
The usage of approximately $8 million of the federal NOL carryforwards and
approximately $2 million of the California NOL carryforwards is limited annually
to approximately $.4 million due to an acquisition which caused a change in
ownership for income tax purposes.
At September 30, 2000 and December 31, 1999, a 100% valuation allowance has
been provided on the Company's deferred tax assets because it is more likely
than not that loss carryforwards will not be realized based on recent operating
results.
(9) SEGMENT INFORMATION AND SIGNIFICANT CUSTOMERS
The Company operates predominantly in one business segment, information
storage solutions, including external RAID subsystems. During the nine months
ended September 30, 2000, no single customer accounted for greater than 10% of
the Company's sales while during the nine months ended September 30, 1999, one
customer accounted for 21% of the Company's sales.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
With the exception of discussion regarding historical information,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" contains forward looking statements. Such statements are based on
current expectations subject to uncertainties and other factors which may
involve known and unknown risks that could cause actual results of operations to
differ materially from those projected or implied. Further, certain forward
looking statements are based upon assumptions about future events which may not
prove to be accurate.
Risks and uncertainties inherent in forward looking statements include, but
are not limited to, our future cash flows and ability to obtain sufficient
financing, timing and volume of sales orders, level of gross margins and
operating expenses, lack of market acceptance of our new product lines, price
competition, conditions in the technology industry and the economy in general,
as well as legal proceedings. The economic risk associated with materials cost
fluctuations and inventory obsolescence is significant to us. The ability to
manage our inventories and deliver products to our customers through procurement
and utilization of component materials could have a significant impact on future
results of operations or financial condition. Historical results are not
necessarily indicative of the operating results for any future period.
Subsequent written and oral forward looking statements attributable to our
company or persons acting on our behalf are expressly qualified in their
entirety by cautionary statements in this Form 10-Q and in other reports filed
by our company with the Securities and Exchange Commission. The following
discussion should be read in conjunction with the Consolidated Financial
Statements and the Notes thereto included elsewhere in this filing.
<PAGE>
Overview
We are a manufacturer and supplier of high-availability, high-performance
enterprise-class SAN solutions for computer operating systems including the
Windows NT, UNIX and Linux platforms. Designed for storage-intensive
environments such as the Internet or other mission-critical applications, our
products include Fibre Channel and SCSI RAID-ready solutions, non-RAID storage
products, tape and advanced storage management software solutions. We market our
products through a direct sales force and a global network of resellers and
OEM's.
Our activities in the information storage industry have evolved through
several acquisitions, the first of which occurred in June 1996 when we acquired
certain assets associated with the RAID business in Lake Mary, Florida, from
Seagate Peripherals, Inc. In June and July 1999, we acquired approximately 76%
of the outstanding common stock of Andataco, Inc. located in San Diego,
California and in November 1999, we acquired the remaining 24% of Andataco. In
early 2000, we completed the consolidation of our Lake Mary manufacturing
operations into our San Diego facility and moved our corporate headquarters to
San Diego. As a result of the acquisition of Andataco, we believe that period to
period comparisons for the nine months ended September 30, 2000 may not be
meaningful.
In January 2000, we completed the Borg Sale, consisting of the sale of
certain patented technology referred to as Adaptive RAID, for $7 million cash
(net of approximately $.5 million of transaction costs). We do not anticipate
that future revenues will be materially adversely affected as a result of this
transaction.
On January 19, 2000, we acquired substantially all of the assets of OneofUs
for an aggregate purchase price of $2.9 million, consisting of $.3 million cash
and 776,000 shares of our common stock with an aggregate value of $2.6 million
(based on the average of the closing prices of our common stock during the ten
(10) trading days ended January 19, 2000). OneofUs was a Taiwan-based,
privately-held designer of high performance Fibre Channel RAID controllers and
storage solutions for open systems and the SAN market.
In January 2000, Larry Hemmerich became our President and Chief Executive
Officer. Substantially all of our current management team was recruited
subsequent to Mr. Hemmerich joining our company.
Results of Operations
Three Months ended September 30, 2000 vs. September 30, 1999
We reported a net loss of $4 million for the three months ended September
30, 2000 compared to a net loss of $2 million for the corresponding quarter in
1999.
Sales
Net sales for the three months ended September 30, 2000 were $9.5 million
as compared to $17.5 million for the 1999 quarter, representing a 46% decline.
During the current third quarter, we focused on beginning to phase out of our
older technology products while we transitioned our efforts to newer technology
solutions centered on our new NexStor 2 U (3.5" high) storage enclosures and
RAID systems. However, new product shipments increased at a slower pace than the
decrease in shipments of our older products. This was primarily attributable to
delays in shipments for both our new products and our older products,
principally resulting from unexpected supplier issues which we believe we have
now resolved. In addition, we are in the process of restructuring our domestic
sales force to be focused on the end-user, SAN solution area.
<PAGE>
Cost of Sales/Gross Margins
Gross margins decreased to 26% for the three months ended September 30,
2000 as compared to 29% for the 1999 quarter, primarily as a result of decreased
utilization of production capacity due to lower sales volumes. Our gross margins
are dependent, in part, on product mix which fluctuates from time to time.
Operating Expenses
Selling, General and Administrative
Selling, general and administrative expenses decreased by 17% to $3.8
million for the three months ended September 30, 2000 from $4.6 million for the
same quarter in 1999. The most significant decrease was $.6 million in
administrative costs as part of our continued efforts to streamline expenses
following the relocation of our Lake Mary manufacturing operations to San Diego.
Research and Development
Research and development expenses for the three months ended September 30,
2000 were $.9 million as compared to $.8 million for the three months ended
September 30, 1999, principally due to additional costs incurred in connection
with the development of several new products which were introduced during the
third and fourth quarters of 2000. We believe that considerable investments in
research and development will be required to remain competitive and expect that
these expenses will continue to increase in future periods.
Depreciation and Amortization
Depreciation and amortization for each of the three month periods ended
September 30, 2000 and 1999 was $1.1 million. Third quarter 2000 amounts include
additional amortization (over seven years) of (i) the $2.8 million of goodwill
associated with the January 2000 acquisition of the assets of OneofUs, and (ii)
the $2.6 million goodwill associated with the November 1999 acquisition of the
minority interests of Andataco. These increases were offset by reduced
amortization resulting from the fourth quarter 1999 write-down of $4.6 million
of goodwill related to our 1996 acquisition of Parity Systems, Inc. The Parity
goodwill was determined to have been impaired because of our inability to
generate future operating income from the assets acquired in the Parity
acquisition.
Other Expense/Income, Net
Other expenses, net, for the three months ended September 30, 2000,
amounted to $.3 million and relate primarily to a supplier settlement reached
during the quarter. During the quarter ended September 30, 2000, other income,
net was $.2 million and primarily consisted of minority interests in Andataco.
Interest Expense
Interest expense for the three months ended September 30, 2000 decreased to
$.3 million as compared to $.7 million in 1999, primarily as a result of
satisfying indebtedness of $6.6 million by issuing common stock ($5.5 million in
December 1999 and $1 million in April 2000).
Preferred Stock Dividends
During the three months ended September 30, 2000, all classes of our
convertible preferred stock required cumulative dividends at 8%-9% per annum.
Preferred stock dividends decreased 52% to $.1 million during 2000 principally
due to the conversion of $7.9 million of preferred stock to common stock in 2000
(see Note 5 to Consolidated Financial Statements).
<PAGE>
Nine Months Ended September 30, 2000 vs. September 30, 1999
For the nine months ended September 30, 2000, we reported a net loss of
$4.3 million as compared to an $8.5 million net loss during the nine month
period ended September 30, 1999. The 2000 nine month period included a $5.6
million gain on the Borg Sale recognized during the first quarter of 2000.
Sales
Net sales for the nine months ended September 30, 2000 increased to $32.9
million from $28.4 million for the same period in 1999, representing a 16%
increase. This increase is substantially the result of a full nine months of
sales during 2000 attributable to the June 1999 Andataco acquisition while the
1999 periods included only four months of Andataco sales. This increase has been
partially offset by the inability of one of our suppliers to deliver a key
component during the second quarter for integration into recently introduced
products, resulting in significant delays in initial shipments of those products
and in some cases lost revenue to our competitors. Our new generation products
began shipping in the third quarter; however, the increased shipments of our
newer technology products have not exceeded the declining revenues of our older
products, which we have begun to phase out.
Cost of Sales/Gross Margins
Gross margins increased to 29% for the nine months ended September 30,
2000, as compared to 22% for the same period in 1999. The increase in gross
margins is primarily the result of the utilization of the Andataco sales
channels to market our products as well as economies of scale attributable to
the level of fixed costs inherent in our operations coupled with higher sales
revenues. For example, certain fixed costs have been reduced by the completion
in March 2000 of the consolidation of our Florida manufacturing operations into
our San Diego headquarters. During the prior year's nine month period, cost of
sales includes a $.8 million provision for slow moving and obsolete inventory
compared to $.1 million in the current year. Our gross margins are dependent, in
part, on product mix which fluctuates from time to time.
Operating Expenses
Selling, General and Administrative
Selling, general and administrative expenses were $12.5 million and $9.5
million for the nine months ended September 30, 2000 and 1999, respectively, an
increase of 31%. These increases are primarily the result of the acquisition of
Andataco, the most significant of which is employee compensation and the related
benefits.
Research and Development
Research and development expenses for the nine months ended September 30,
2000 increased 22% to $2.5 million over the same period in 1999, principally due
to additional costs incurred in connection with the development of several new
technology products introduced during 2000. We believe that considerable
investments in research and development will be required to remain competitive
and expect that these expenses will continue to increase in future periods.
<PAGE>
Depreciation and Amortization
Depreciation and amortization for the nine months ended September 30, 2000
was $3.4 million as compared to $2.1 million for 1999. These increases were
primarily due to the additional amortization (over seven years) attributable to
$14.7 million of goodwill associated with the 1999 Andataco acquisition and $2.8
million of goodwill associated with the January 2000 acquisition of the assets
of OneofUs, partially offset by reduced amortization resulting from the fourth
quarter 1999 write-down of $4.6 million of goodwill related to our 1996 Parity
acquisition. The Parity goodwill was determined to have been impaired because of
our inability to generate future operating income from the assets acquired in
the Parity acquisition.
Other Expense/Income, Net
Other income, net, decreased to $.1 million during the nine months ended
September 30, 2000, as compared to $.3 million for the 1999 period. During the
2000 period, other income primarily consisted of a cash settlement received
during June 2000 which was substantially offset by a supplier settlement reached
during September 2000. During the 1999 period, a significant amount of other
income was attributable to minority interests in Andataco.
Interest Expense
Interest expense for the nine months ended September 30, 2000 decreased to
$.9 million as compared to $1.5 million in 1999, primarily as a result of
satisfying indebtedness of $6.6 million by issuing common stock ($5.5 million in
December 1999 and $1 million in April 2000). This reduction was partially offset
by interest attributable to a $5.1 million note incurred in the Andataco
acquisition in June 1999.
Preferred Stock Dividends
During the nine months ended September 30, 2000 and 1999, all classes of
our convertible preferred stock required cumulative dividends at 8%-9% per
annum. Preferred stock dividends decreased by 10% to $.5 million during 2000
principally due to the conversion of $7.9 million of preferred stock to common
stock in 2000, partially offset by the issuance of $8.7 million of preferred
stock in June 1999.
During the nine months ended September 30, 1999, we recorded $.3 million as
an additional embedded dividend attributable to: (1) the fair value at the date
of grant of warrants issued in connection with the sale of Series E convertible
preferred stock (based on the Black-Scholes option-pricing model) and (2) the
beneficial conversion privilege on Series A convertible preferred stock
representing the difference between the conversion price and the quoted market
price of common stock at the date of issuance.
Liquidity and Capital Resources
Consolidated Statements of Cash Flows
Operating Activities
Net cash used by operating activities amounted to $8.3 million and $5.2
million for the nine months ended September 30, 2000 and 1999, respectively. The
most significant use of cash was our loss from operations (before changes in
assets and liabilities) of $6.3 million and $4.1 million, respectively. A
significant use of cash during 2000 was the net increase in inventories in the
amount of $2.1 million (principally due to our investment in new products),
which was partially offset by cash provided by net collections of accounts
receivable of $.8 million. During 2000 and 1999, we used cash of $.8 million and
$.9 million, respectively, in the reduction of accounts payable and other
liabilities. During 1999, cash was also used in the increase of accounts
receivable in the amount of $.7 million, principally due to the significant
increase in our third quarter 1999 sales.
<PAGE>
Investing Activities
Net cash provided by investing activities was approximately $6.1 million
for the nine months ended September 30, 2000, principally due to $7 million in
net cash proceeds from the Borg Sale. During 1999, cash used by investing
activities of $1.4 million was principally for the acquisition of Andataco in
the amount of $1.1 million.
Financing Activities
Net cash provided by financing activities for the nine months ended
September 30, 2000 was $1.7 million which consisted principally of $1.2 million
in proceeds from the exercise of stock options and warrants and $.7 million in
net proceeds from our equity draw down facility (see Note 6 to Consolidated
Financial Statements). Net cash provided by financing activities for the nine
months ended September 30, 1999 amounted to $6.7 million and primarily consisted
of net borrowings of $4.9 million from private investors, including $2.6 million
from Mr. Levy or a company controlled by Mr. Levy ($4.6 million advanced less $2
million repaid in cash), $1.6 million in proceeds from the exercise of stock
options and warrants, and $3 million from the issuance of common stock and
convertible preferred stock, partially offset by $2.3 million in net repayments
under our revolving credit facilities. In addition, $1.5 million of our
borrowings from Mr. Levy was satisfied by the issuance of convertible preferred
stock.
Borrowings
In connection with the acquisition of Andataco, we issued $5.1 million in
promissory notes due in July 2004. In addition, our asset based revolving Bank
Line of Credit (see Note 4 to Consolidated Financial Statements) provides for
borrowings based on the lesser of $10 million or (i) 85% of eligible accounts
receivable, as defined, plus (ii) the lesser of $1.75 million or 23% of eligible
inventory, as defined. This facility provides for certain financial covenants,
including net worth and net income requirements.
During the first quarter of 2000, we were not in compliance with the
minimum net worth covenant of the Bank Line of Credit and, as a result, we were
in technical default. On March 29, 2000, the lender agreed to waive that default
and effective April 14, 2000, we agreed with the lender to amend certain terms
of the Bank Line of Credit, including an increase in the interest rate from
prime +.5% to prime plus 1.5% and new minimum net worth and net income covenants
on a consolidated basis. The amended agreement was executed on September 14,
2000. At September 30, 2000, we were not in compliance with the minimum net
worth and net income requirements causing us to be in technical default under
the compliance provisions of the Bank Line of Credit. We are currently in
discussions with the lender to amend the financial covenants which we believe
will be successful, however, there can be no assurance of success.
Financing Activities With Private Investors
From late 1997 through September 30, 2000, we obtained net cash proceeds of
$28.8 million from private investors, consisting of sales of convertible
preferred stock and common stock, net borrowings and the exercise of stock
options and warrants to purchase shares of our common stock. Of these amounts,
Mr. Levy or companies controlled by Mr. Levy advanced or invested a net amount
of $8.4 million.
<PAGE>
On January 10, 2000, we completed the Borg Sale and received net cash
proceeds of approximately $7 million, net of approximately $.5 million of
transaction costs, of which $1.6 million was used to repay short-term notes
payable to Mr. Levy.
Effective April 12, 2000, Mr. Levy and/or a company controlled by Mr. Levy
agreed to commit to us a $2 million revolving line of credit facility
(subsequently increased to $2.5 million, effective July 31, 2000 and to $3.3
million, effective October 11, 2000) which matures on April 30, 2001. At
September 30, 2000, net advances under this facility amounted to $1.6 million
($1.7 million advanced and $.1 million repaid) and bear interest at 10% per
annum. As of October 31, 2000, the outstanding balance under this commitment was
$2.6 million.
On May 9, 2000, we entered into an agreement with a private investment
group granting us a one-year $15 million equity line or equity draw down
facility. The agreement does not obligate us to draw any of the funds. Once per
draw down period, we may request a draw of up to $5 million, subject to a
formula based on average stock price and average trading volume, setting the
maximum amount of any request for any given draw. The amount of money that the
investment group will provide to us and the number of shares we will issue to
the investment group in return for that money is settled on a weekly basis
during a 22 day trading period following the draw request based on a formula as
defined in the stock purchase agreement. The investment group receives a 7%
discount to the market price for the 22 day period and we receive the settled
amount of the draw down less a 4% fee payable to the placement agent. As of
September 30, 2000, we have issued 351,857 shares of common stock and received
$.7 million in net proceeds pursuant to this agreement.
We believe that amounts expected to be available under the Bank Line of
Credit, Mr. Levy's commitment and our equity line will be sufficient to satisfy
our working capital needs during the next twelve months, as presently
contemplated. If we are not successful in reaching an agreement with our lenders
regarding financial covenants on our Bank Line of Credit, there can be no
assurance that we will be able to find a replacement lender with acceptable
terms. In addition, there can be no assurance that we may not require additional
capital beyond our current forecasted needs nor that any such additional
required funds would be available on terms acceptable to us, if at all, at such
time or times as required by us.
Effect of Inflation
Inflation has not had an impact on our operations and we do not expect that
it will have a material impact in 2000.
Item 3. QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We maintain a floating interest rate Bank Line of Credit ($5.6 million
outstanding balance at September 30, 2000). Therefore, we are subject to a
certain amount of risk arising from increases to the prime rate.
Part II - OTHER INFORMATION
Item 1. Legal Proceedings - Not applicable
Item 2. Recent Sales of Unregistered Securities and Use of Proceeds
During the three months ended September 30, 2000, we issued 315,200 shares
of our common stock in connection with our equity line of credit.
These issuances were exempt from registration under section 4(2) of the
Act.
Item 3. Defaults Upon Senior Securities - Not applicable
Item 4. Submission of Matters to a Vote of Security Holders - None
Item 5. Other Information - Not applicable
Item 6. Exhibits and Reports on Form 8-K:
(a) Exhibits:
(10.1) Assumption and Amendment Agreement dated September 14, 2000 between
Registrant and Wells Fargo Credit, Inc.
(10.2) Third Amended and Restated Line of Credit Note between Registrant and
Wells Fargo Credit, Inc., dated September 14, 2000.
(10.3) Continuing Guaranty between Registrant and Wells Fargo Credit, Inc.
(10.4) Promissory Note dated July 31, 2000 between Registrant and H. Irwin Levy
in the amount of $2,500,000.
(10.5) Promissory Note dated October 11, 2000 between Registrant and H. Irwin
Levy in the amount of $2,550,000.
(10.6) Promissory Note dated October 11, 2000 between Registrant and MLL Corp.
in the amount of $750,000.
(10.7) Revised Employment Agreement between Registrant and Larry Hemmerich,
President and Chief Executive Officer of Registrant.
(27) Financial Data Schedule
(b) Reports on Form 8-K:
We were not required to file Form 8-K during the quarter for which this
report is filed.
<PAGE>
SIGNATURE
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.
nSTOR TECHNOLOGIES, INC.
(Registrant)
/S/ Jack Jaiven
November 10, 2000 ---------------------------
Jack Jaiven
Principal Financial and
Accounting Officer
