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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
/x/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED JUNE 30, 1996 OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 0-28562
VERILINK CORPORATION
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(Exact name of registrant as specified in its charter)
DELAWARE 94-2857548
- ---------------------------------- ------------------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
145 BAYTECH DRIVE, SAN JOSE, CALIFORNIA 95134
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(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (408) 945-1199
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of exchange on which registered
None N/A
Securities registered pursuant to Section 12(g) of the Act: Common Stock,
$0.01 par value
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 / / .
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendments to this Form 10-K. / X /
The aggregate market value of the voting stock held by non-affiliates of the
Registrant, based on the closing sale price of the Common Stock on September 11,
1996, as reported by the Nasdaq National Market was $121,200,763. Shares of
Common Stock held by each officer and director and by each person who owns 5% or
more of the outstanding Common Stock have been excluded from this computation in
that such persons may be deemed to be affiliates. This determination of
affiliate status is not a conclusive determination for other purposes.
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(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
As of September 11, 1996 the registrant had outstanding 13,147,746 shares of
Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Parts of the Registrant's Annual Report to Stockholders for its fiscal year
ended June 30, 1996 (the 1996 Annual Report to Stockholders) and the
Registrant's Proxy Statement for its 1996 Annual Meeting of Stockholders (the
Proxy Statement) are incorporated by reference in Parts II, III and IV of this
Form 10-K Report.
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PART I
ITEM 1. BUSINESS
INTRODUCTION
Verilink Corporation develops, manufactures and markets integrated access
products for telecommunications network service providers and corporate end
users. Verilink designed the Access System 2000 with modular hardware and the
Company's software-based Advanced Programmable Architecture(TM) to enable its
customers to access increased network capacity and to adopt new communications
services in a cost-effective manner. The Access System 2000 provides integrated
access to low speed services, fractional T1/E1 services, and T1, E1, T3,
switched multimegabit data services ("SMDS") and frame relay services, with
asynchronous transfer mode ("ATM") and ISDN products under development.
Verilink sells its products through a direct sales force and non-exclusive
resellers. Verilink's integrated network access products are used by network
service providers such as interexchange and local exchange carriers, and
providers of Internet, personal communications and cellular services. The
Company also sells single purpose network access devices for selected
applications. The Company's largest customers include MCI Communications Corp.,
CompuServe Corp., Northern Telecom, Inc. and QUALCOMM Incorporated.
INDUSTRY BACKGROUND
Corporate and consumer demand for data, voice and video transmission
services is expanding worldwide, creating a need for both increased bandwidth
and new communications services. At the same time, the competitive landscape
faced by providers of high bandwidth transmission capacity is evolving rapidly
due to developments including the migration of corporations from private
networks to public networks, the proliferation of the Internet, the continuing
deregulation of the telecommunications industry and the introduction of new
wireless services. In response to these developments, network service providers
("NSPs"), including interexchange and local exchange carriers, and providers of
Internet, personal communications and cellular services, are offering a variety
of new communications services, each of which traditionally required a separate
single purpose network access device. The limitations of single purpose network
access devices have created the need for flexible integrated network access
equipment that will allow NSPs to provide corporate users access to a variety of
communications services in a cost-effective manner.
Demand for Increased Bandwidth
Businesses increasingly depend on the flow of data, voice and video traffic
through their communication networks, driving demand for additional bandwidth.
Corporate employees increasingly travel, telecommute and work in geographically
dispersed teams, creating a need for remote connections to corporate local area
networks ("LANs"). Corporations are also deploying wide area networks ("WANs")
to connect LANs located in local and remote locations. In addition, the type of
information transmitted over networks increasingly requires high transmission
rates. For example, video conferencing and multimedia applications require
substantially more bandwidth than needed for traditional data file transfers.
This continued growth in demand for bandwidth has caused corporations to seek
network access solutions from NSPs and equipment suppliers that accommodate both
current and future bandwidth requirements.
Migration from Private to Public Networks
Since the mid-1980s, corporations have relied on private data networks using
dedicated digital circuits leased from communications carriers. Corporations now
increasingly use public network services offered by NSPs as an alternative to
the high cost of corporate private networks. These public network services allow
users to access end-to-end digital circuits on an as-needed basis. This
migration resulted from cost-effective and reliable new communication services
offered by NSPs, the trend to outsource non-core corporate functions, and the
growth in the cost and complexity of maintaining private networks. In order to
provide competitive service to these corporations, NSPs need flexible network
access equipment that facilitates cost-effective provision of a variety of
communications services.
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Growth of Corporate Use of the Internet
The Internet was originally used by academic and governmental organizations
for applications such as e-mail and file transfer. Increasingly, corporations
and individuals are using the Internet for more bandwidth-intensive applications
that use sound, images and video, and to provide interconnectivity within the
enterprise. Internet users now face transmission delays as backbone capacity
lags the growth in the number of users and as use of high-bandwidth applications
increases. In response to this transmission bottleneck, NSPs are upgrading the
Internet's communications backbone, which may encourage corporations to continue
increasing activity on the Internet.
Deregulation and Increased Competition
The market for providing communication services to larger organizations has
become increasingly competitive since the 1984 divestiture of AT&T. This
environment has led to the development and introduction of new services by a
broader range of NSPs, including long distance companies (such as AT&T, MCI and
Sprint), local exchange carriers (such as regional Bell operating companies
("RBOCs") and GTE) and competitive access providers (such as MFS Communications
Company, Inc. and Teleport Communications Group, Inc.). The deregulation
effected by the Telecommunications Act of 1996 is expected to further increase
competition among NSPs, as long distance and local exchange carriers enter each
others' business and new entrants emerge, including cable TV operators, wireless
carriers and Internet/on-line service providers. To compete successfully, this
growing group of NSPs must offer customers access to new services at a low cost
and with high reliability.
Wide Range of New Communications Services and Technologies
Over the past several years, NSPs have introduced a variety of new,
high-bandwidth switched services as alternatives to historical dedicated leased
line services. For example, ISDN service allows users to exchange data, voice
and video on a "dial-up" basis. In the United States, ISDN service is currently
offered by NSPs at transmission rates from 64 Kbps to 1.544 Mbps. Further, NSPs
have introduced packet and cell-based switching services such as frame relay,
SMDS and ATM. Frame relay is a data service which provides corporate users with
dedicated access to the NSP's frame relay network at transmission speeds of 56
Kbps to 1.544 Mbps ("T1"). ATM provides high speed transmission and low latency
which allows effective transmission of data, voice and video traffic.
Wireless telecommunications services are becoming more widespread due to
advances in technology, regulatory encouragement and increased demand. The
Company expects that personal communication services ("PCS"), digital cellular
and other emerging services will make wireless service cheaper, easier to use
and more compatible with existing information delivery systems. For example, the
cellular digital packet data ("CDPD") standard has been developed to allow data
transmissions in digitized packets during idle times on cellular phone channels.
LIMITATIONS OF SINGLE PURPOSE NETWORK ACCESS SOLUTIONS
Traditionally, a dedicated single purpose access device has been deployed
for each type of network communications service. For example, one device is used
for SMDS service and another entirely separate device is used to provide T1
service. The use of single purpose devices to access the expanding variety of
communications services has become increasingly costly and inefficient for
several reasons:
- Limited Ability to Accommodate Emerging Technologies and Services. As new
technologies and services such as ATM are deployed, the need to have a
flexible and cost-effective migration path to such technologies is
critical, as few companies can afford to replace large portions of their
network access equipment. Single purpose network access devices typically
cannot provide such a migration path.
- Limited Ability to Accommodate Multiple Services. The migration of network
users from dedicated private to switched public networks has placed NSPs in
the position of having to be "everything to everyone" because NSPs must
offer network access compatible with the various communications services
chosen by their customers. Expenditures for numerous single purpose access
devices that each support a single service offering can be an inefficient
use of NSP's financial resources.
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- Limited Scalability. The rapid expansion of networks has increased demand
for upgraded network access which is difficult to meet efficiently by simply
purchasing more non-scalable single purpose network access devices.
Furthermore, growing bandwidth requirements often necessitate the adoption
of new and faster technologies, thereby requiring additional outlays for new
access equipment.
- Difficulty of Maintenance and Support. Use of numerous single purpose
network access devices built to different standards and requiring separate
management systems can complicate operating procedures and result in
multiple potential failure points. The increasing importance of network
applications to end users has resulted in new focus on the importance of
investing in network access equipment that is reliable and easy to manage,
repair and upgrade.
THE VERILINK SOLUTION
Verilink's Access System 2000 is a flexible network access and management
solution that provides cost-effective integrated access to a broad range of
network services. The Access System 2000 uses a modular hardware architecture
and the Company's software-based Advanced Programmable Architecture ("APA") to
provide a scalable, adaptable platform for a flexible network migration path to
new communications services. In addition, the Access System 2000 was designed to
simplify network management and to provide reliable service. The benefits of the
Access System 2000 include:
- Flexible Access to Multiple Services. The integrated Access System 2000 is
designed to allow NSPs to rely on a single, flexible equipment platform that
they can adapt to meet the current and emerging service needs of multiple
customers. The Access System 2000 currently enables NSPs to support
historical dedicated leased line services, such as subrate data, fractional
T1, T1 and T3, as well as new high-bandwidth switched services such as frame
relay and SMDS in an integrated platform. Verilink expects to offer ISDN and
ATM functionality on the Access System 2000 platform during fiscal 1997. As
these service needs change, the Access System 2000's modular hardware
architecture and APA allows NSPs to use the same platform to provide access
to multiple services.
- Migration Path to New Technologies and Services. The Access System 2000's
architecture was designed to allow NSPs and corporate customers to add new
technologies and services incrementally. The Access System 2000 allows the
customer access to increased network capacity or access to additional
service offerings by adding circuit cards. The end-user can also vary
certain system features simply by downloading new software provided by the
Company.
- Scalable Growth. The Access System 2000's scalable design enables it to be
expanded to meet customer demands for access to increased network capacity
by adding additional circuit cards often at lower incremental cost, compared
to the cost of buying, installing and maintaining multiple new dedicated
single-purpose access devices.
- Ease of Network Management. The Access System 2000 can also be monitored
remotely using the Company's proprietary management system, the Access
Manager 2000, or using industry standard simple network management protocol
("SNMP") tools. The Company's APA technology allows the product to be
configured, upgraded and serviced remotely.
- Reliable Performance. Verilink's Access System 2000 is designed to be highly
reliable, and its ability to provide access to multiple services from one
integrated device lowers the number of potential failure points. In
addition, the Company believes its product reliability is enhanced by its
commitment to high quality standards and its formal program of total quality
management. See "-- Manufacturing and Quality."
VERILINK STRATEGY
The Company's objective is to become the leading provider of integrated
network access equipment for use by NSPs and large corporate customers. Key
elements of the Company's strategy include:
- Expand Relationships with Key Customers. The Company has developed close
relationships with MCI, CompuServe, Northern Telecom and QUALCOMM, leaders
in traditional or emerging telecommunications
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markets. The Company believes that these relationships have allowed it to
gain an in-depth knowledge of several networking technologies, which today
are deployed in different markets. As its key customers adopt new
technologies to expand the range of services they offer and enter new
markets, the Company intends to leverage its expertise in each of these
technologies by selling additional types of products to these customers.
- Expand Customer Base. The Company believes that a direct sales organization
that understands and can solve complex network access problems is necessary
to sell its products to NSPs and large corporations. To date, the Company
has sold its products through a relatively small direct sales and support
organization. The Company intends to invest significantly to enlarge this
sales and support organization in order to expand its customer base.
- Offer Broad Array of Integrated Network Access Solutions. The Company's
product strategy is to offer multiple network access technologies on a
single integrated platform. Verilink designed the modular and scalable
architecture of the Access System 2000 to provide a migration path to new
network services, enabling customers to provide additional services without
entirely replacing network access equipment. The Company is currently
developing ISDN and ATM applications for the Access System 2000 product
line.
- Focus on Emerging International Markets. The Company believes that the
markets for network access solutions in developing countries present
significant opportunities. The Company intends to address these
opportunities by partnering with NSPs and telecommunications equipment
providers active in these markets and by forming an international sales
force. The Company has recently introduced an Access System 2000 product for
E1 access that is designed to meet international telecommunications
standards.
- Provide Highly Reliable Products. The Company's customers operate in an
environment in which transmission reliability and availability are
increasingly mission critical factors. The Company has adopted a formal
total quality management process that integrates new product specifications,
development, manufacturing, repair and service, which is intended to achieve
high reliability of its products and services. The Company has been ISO 9001
certified since 1993.
PRODUCTS
Access System 2000
Verilink's Access System 2000 is a flexible network access and management
solution that provides cost-effective integrated access to a broad range of
network services. Access System 2000 products are designed for installation at
the origination and termination points at which NSPs provide communications
services to their corporate customers. A key element of the flexibility and
adaptability of the Access System 2000 is its modular architecture which allows
customers to access new services or expanded network capacity by installing new
circuit cards. In addition, its Advanced Programmable Architecture allows
certain functions of the Access System 2000's hardware to be configured through
software downloads. The table below summarizes the Access System 2000 product
line:
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<TABLE>
<CAPTION>
------------- ----------------------------------------------------- ------------------
VERILINK ACCESS SYSTEM 2000 PRODUCT LINE
------------- ----------------------------------------------------- ------------------
Application Description and General Features List Price Range
------------- ----------------------------------------------------- ------------------
<S> <C> <C>
Accesses T1 lines for PBX, multiplexer and D4
channel banks
CSU Provides ESF performance monitoring capabilities $2,800-5,000
Supports TDM applications
------------- ----------------------------------------------------- ------------------
Integrated DSU/CSU for frame relay and Internet
applications Accesses carrier-dedicated T1 and
fractional T1 facilities
DSU/CSU Supports data applications at low speeds and at $2,900-5,700
multiple
56 Kbps/64 Kbps rates
------------- ----------------------------------------------------- ------------------
Aggregates multiple lower speed data ports onto a
single
T1/E1 T1/E1 line
Multiplexing Supports V.35, RS449, E1A530 and other interfaces $4,500-7,500
and
provides drop-and-insert capability
------------- ----------------------------------------------------- ------------------
Aggregates up to five RS-232 subrate data channels
Subrate Supports DS0A/DS0B formats
and Supports synchronous/asynchronous modes from 300 $4,500-7,500
bps to
Multiplexing 19.2 Kbps
------------- ----------------------------------------------------- ------------------
Provides access to Switched Multimegabit Data
Service
SMDS Supports T1/T3 rates $4,900-17,500
Intercarrier Interface for T3
------------- ----------------------------------------------------- ------------------
Provides bit-based inverse multiplexing for
high-speed data
Inverse Supports up to eight T1/E1s $9,500-17,500
Multiplexing Automatic line configuration
------------- ----------------------------------------------------- ------------------
Provides DS3 access for high-speed data applications
DS3 DSU Supports a single High-Speed Serial Interface $6,400-9,100
In-band management capability
------------- ----------------------------------------------------- ------------------
Automatic Provides T1 transmission facility protection
switching
Protection User-defined protection groups $2,500-4,500
Switching Automatic or manual switching
------------- ----------------------------------------------------- ------------------
Provides ATM WAN access for data applications
ATM* Supports T1/E1 and T3/E3 and nxT1/E1 $12,000-19,300
Interworking functions for frame relay or SMDS to
ATM
------------- ----------------------------------------------------- ------------------
ISDN* Provides ISDN-PRI access $5,500-9,500
------------- ----------------------------------------------------- ------------------
</TABLE>
* Currently under development. See "Risk Factors -- Dependence on Recently
Introduced Products and Products Under Development."
The Access System 2000 is accessed and controlled by the Access Manager
2000, a full-network monitoring system. The Access Manager 2000 facilitates
remote configuration of node equipment and provides integral performance
monitoring, diagnostics, test and maintenance capabilities for the entire
network. Software downloads for product upgrades and modifications can be
implemented remotely using the Access Manager 2000 or SNMP tools.
Access System 2000 Applications
NSPs use the Access System 2000 in a number of applications. The following
are brief descriptions of some of the uses of the Access System 2000:
Interexchange Carrier Frame Relay Network. In an interexchange carrier
("IXC") frame relay network, the Access System 2000 is located at the IXC's
point of presence and is used to terminate T1 or fractional T1 circuits from
frame relay subscribers. In this application, the Access System 2000 is used to
concentrate frame relay traffic from multiple users, providing more efficient
use of network ports on the carrier's frame relay switches or nodal processors.
As a result, the carrier can achieve increased circuit utilization and decreased
transmission costs.
Internet Service Provider Network. In an Internet service provider ("ISP")
network, the Access System 2000 is located at the ISP's network access point and
provides access to high-speed transmission between the ISP's regional centers
and its network operation center. The Access System 2000 provides high-bandwidth
solutions through T3 and multiple T1 and E1 access that can improve network
performance in a cost-effective manner.
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Personal Communications Service Network. In a new personal communication
service ("PCS") network based on Code Division Multiple Access (CDMA), the
Access System 2000 is being used to provide wireline access and termination. The
Access System 2000, with its integrated access technology, is designed to be
used by the service provider to connect to carrier-provided services, while
providing channel grooming, performance monitoring and drop-and-insert functions
at their mobile switching sites.
Cellular Service Provider Network. In a cellular network, NSPs use T1
circuits for inter-site communications. The Access System 2000 is located at
both the cell site and mobile switching center to provide cost-effective
automatic T1 protection switching for critical inter-site traffic. In addition,
the Access System 2000 offers management capabilities, and its small size makes
it suitable for space-limited cell sites.
Other Products and Services
ConnecT DSU/CSU Products. The Company's ConnecT DSU/CSU line of products
integrates the capabilities of T1 data service units ("DSUs") and channel
service units ("CSUs"). They are designed to provide economical solutions for
connecting LANs and geographically separated digital devices, including video
teleconferencing equipment, mainframe computers, computer aided design and
manufacturing (CAD/CAM) workstations and imaging systems. Verilink's ConnecT
DSU/CSU products include the ConnecT1, a dual-port device with integrated
DSU/CSU functions that allow users to interconnect digital applications
operating at data rates from 56Kbps to T1, via the carrier network, and the
ConnecT FT1, a cost-effective, single-port device that provides access to T1 and
fractional T1 services.
Extended Superframe ("ESF") Products. The Company's ESF CSU products
interface data terminal equipment to a network facility and offer the full
benefit of ESF performance measurement. The ESF CSU products can be controlled
and monitored locally or remotely and are offered in a variety of
configurations, ranging from a single T1 circuit to a multiline shelf
accommodating up to 10 ESF CSUs.
Line Interface Units. The Company's Line Interface Unit provides the
interface needed to connect two T1 lines to a channel bank or voice multiplexer.
The product is designed to enhance the management capabilities of network access
equipment by providing T1 performance statistics. This product is purchased by
RBOCs to upgrade the performance of their installed base of channel banks.
Services. The Company offers its customers the option of purchasing extended
services in addition to those provided under its standard product warranty.
These extended services include product upgrades, software and on-site hardware
maintenance and installation services, extended telephone support, on-site
training and advanced equipment exchange.
CUSTOMERS
The primary market for the Company's products is comprised of NSPs. The
secondary market for the Company's products is comprised of large corporations
with private networks. The following table sets forth a representative list of
Verilink's NSP and corporate end user customers, and its resellers, in these
markets.
AT&T Wireless Graybar
Alamo Rent A Car MCI
Alltel Supply Northern Telecom
Ameritech Nynex
Anixter QUALCOMM
Bell South Pacific Bell
CompuServe Rockwell International
EDS Southwestern Bell
First Data Corp. The Travelers Group
The Company's products are sold to a limited number of customers. See "Risk
Factors -- Customer Concentration."
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SALES AND MARKETING
The Company sells its products primarily to NSPs and their large corporate
end user customers through a direct sales force and through a number of
non-exclusive resellers, including OEMs, VARs and distributors. The Company has
focused its marketing strategy on leveraging existing, and developing new, key
customer relationships in specific telecommunications market segments, including
the WAN and remote LAN access, Internet access, and wireless access segments.
An important element of the Company's marketing strategy of targeting key
customer relationships is its direct sales efforts to such customers.
Approximately 86% of the Company's sales during fiscal 1996 were derived through
direct sales to such customers. A direct sales effort, supported by sales
engineers who provide customers with pre- and post-sale technical and strategic
assistance, allows the Company to gain a more in-depth knowledge of customers'
network access requirements. The Company believes this knowledge helps it to
build long-term relationships and alliances with key customers. The Company
intends to increase the size of its direct sales and support organization. In
order to service its targeted markets, the Company, as of June 30, 1996, had 11
sales people located in ten offices in major U.S. metropolitan areas, with an
average of ten years of direct sales experience in the telecommunications field.
The Company also has sales engineers located in most of its sales offices to
assist customers in developing technology strategies and specific product plans,
as well as provide technical assistance and support.
Verilink's service and support program includes: a five-year product
warranty; formal customer training programs; on-site installation and
maintenance; free telephone support; complete repair, refurbishment and upgrade
services with a committed ten-day turnaround; and local applications engineering
support.
In addition to its direct sales, the Company sells its products through VARs
and distributors such as Anixter, Graybar and Alltel Supply. Approximately 14%
of the Company's sales during fiscal 1996 were made to VARs and distributors.
The Company's VARs and distributors have primarily sold the Company's single
purpose network access products.
To date, the Company has had minimal direct sales to international
customers. The Company believes that the international market for network access
solutions will experience increasing growth in the future. The Company's
strategy is to increase and diversify its international sales through corporate
relationships. The Company's Access System 2000 product has been designed to
meet international telecommunications standards. See "Risk Factors -- Risks
Associated With Entry into International Markets."
COMPETITION
The market for network access and telecommunications equipment is highly
competitive, and the Company expects competition to increase in the future. This
market is subject to rapid technological change, regulatory developments and
emerging industry standards. The Company faces different competitive
environments for its Access System 2000 products than for its single purpose
network access products.
The market for integrated access devices such as the Company's Access System
2000 is newly emerging and is subject to rapid change. The Company believes that
the primary competitive factors in this market are the development and rapid
introduction of new product features, price/performance, support for multiple
types of communications services, network management, reliability and safety,
and quality of customer support. There can be no assurance that the Company's
new products and products under development will be able to compete successfully
with respect to these or other factors. The Company's principal competition to
date for its current Access System 2000 products has been from Digital Link
Corporation, Kentrox, a division of ADC Telecommunications (both in Kentrox's
own products and products supplied by Premisys Communications, Inc.) and
Larscom, Inc., a subsidiary of Axel Johnson. As the Company develops new
products for the Access System 2000 line, the Company expects to increasingly
compete with Premisys. The Company expects additional competition from companies
that are currently competitors in the markets for the Company's single purpose
network access products, as such companies develop new products. In addition,
the Company expects substantial competition from companies in the computer
networking market and other related markets such as Newbridge Networks
Corporation and Ascend Communications, Inc. To the extent that current or
potential competitors can expand their current
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offerings to include products that have functionality similar to the Company's
products and planned products, the Company's business, financial condition and
results of operations could be materially adversely affected.
The Company believes that the market for its single purpose network access
products is mature. The Company believes that the principal competitive factors
in this market are price, installed base and quality of customer support. In
this market, the Company primarily competes with Adtran, Inc., Digital Link,
Kentrox and Larscom. There can be no assurance that such companies or other
competitors will not introduce new products that provide greater functionality
and/or at a lower price than the Company's single purpose network access
products. In addition, the Company anticipates that competitors and customers
may develop products that could be used for selected applications for which the
Company's products are currently provided. Successful, timely development of
such products could reduce the level of demand for the Company's products. The
Company does not expect to spend significant, if any, resources on research and
development of its single purpose network access products. There can be no
assurance that the Company's single purpose network access products will be
competitive in the future. AT&T Paradyne Corporation, a company that had been a
major customer in fiscal 1993, developed a product for use in applications
addressed by one of the Company's single purpose network access products and
subsequently substantially reduced orders for the Company's products.
Many of the Company's current and potential competitors have substantially
greater technical, financial, manufacturing and marketing resources than the
Company. In addition, many of the Company's competitors have long-established
relationships with network service providers. There can be no assurance that the
Company will have the financial resources, technical expertise, manufacturing,
marketing, distribution and support capabilities to compete successfully in the
future. See "Risk Factors -- Competition."
RESEARCH AND DEVELOPMENT
The Company's research and development efforts are focused on developing new
products, core technologies and enhancements to existing products. For the past
several years, product development activities have emphasized expansion of
features and functionality for the Access System 2000 product family. The
Company's product development strategy has focused on the development of modular
software and hardware products that can be integrated and adapted to the
changing standards and requirements of the communications and internetworking
industries.
The Company expects that it will continue to expend significant resources
for product development of specific applications such as ISDN and ATM as well as
to respond to market demand and new service offerings from network service
providers. These applications are targeted for release in fiscal 1997. The
Company is also developing an application for analog voice transmission.
During fiscal 1996, 1995 and 1994, total research and development
expenditures were $7.0 million, $6.5 million and $6.0 million, respectively. All
research and development expenses are charged to expense as incurred. As of June
30, 1996, 53 full-time employees were engaged in product development.
The network access and telecommunications equipment markets are
characterized by rapidly changing technologies and frequent new product
introductions. The rapid development of new technologies increases the risk that
current or new competitors could develop products that would reduce the
competitiveness of the Company's products. The Company's success will depend to
a substantial degree upon its ability to respond to changes in technology and
customer requirements. This will require the timely selection, development and
marketing of new products and enhancements on a cost-effective basis. The
development of new, technologically advanced products is a complex and uncertain
process, requiring high levels of innovation. The development of new products
for the integrated access market requires competence in the general areas of
telephony, data networking, network management and wireless telephony as well as
specific technologies such as SMDS, ATM and ISDN. Further, the communications
industry is characterized by the need to design products which meet industry
standards for safety, emissions and network interconnection. With new and
emerging technologies and service offerings from network service providers, such
standards are often changing or unavailable. As a result, there is a potential
for product development delay due to the need for compliance with new or
modified standards. The introduction of new and enhanced products also requires
that the Company manage transitions from older products in order to minimize
disruptions in customer orders, avoid excess inventory of old products and
ensure that adequate supplies of new products can be delivered to meet customer
orders. There can be no assurance that the Company will be successful in
developing,
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introducing or managing the transition to new or enhanced products or that any
such products will be responsive to technological changes or will gain market
acceptance. The Company's business, financial condition and results of
operations would be materially adversely affected if the Company were to be
unsuccessful, or to incur significant delays, in developing and introducing such
new products or enhancements.
MANUFACTURING AND QUALITY
The Company's manufacturing operations consist primarily of material
requirements planning, materials procurement and final assembly, test and
quality control of subassemblies and systems. The Company performs virtually all
aspects of its manufacturing process at its San Jose facility, with the
exception of printed circuit board assembly. A local contract manufacturer
performs printed circuit board assembly with parts sourced by Verilink. This
control of the manufacturing process enables the Company to implement quality
control and continuous process improvement techniques and methods, including
failure mode analysis, statistical process control and the use of quality
improvement teams. In addition, the Company has extended these quality control
techniques to certain suppliers by teaching and assisting them to implement such
techniques as statistical process control and just-in-time parts delivery. The
Company has been ISO 9001 certified since 1993. ISO 9000 is an international
quality certification process, developed in the European Common Market and
adopted by the United States as the method by which companies can demonstrate
the functionality of their quality system. Verilink obtained such certification
through an independent third party, with ongoing audits on a semi-annual basis.
On-time delivery of the Company's products is dependent upon the
availability of quality components and subsystems used in its products. The
Company depends upon a subcontractor to assemble printed circuit boards used in
its products in a timely and satisfactory manner. The Company obtains several
components, and licenses certain embedded software, from single sources.
Although the Company believes that, in each case, either an alternative supplier
is available or the product can be redesigned to incorporate a different
component, significant interruption in the delivery of any such item could have
a material adverse effect on the Company's business, financial condition and
results of operations. In particular, the Company's orders frequently require
delivery quickly after placement of the order. Because the Company does not
maintain significant component inventories, delay in shipment by a supplier
could lead to lost sales.
INTELLECTUAL PROPERTY AND OTHER PROPRIETARY RIGHTS
The Company relies upon a combination of patent, trade secret, copyright and
trademark laws and contractual restrictions to establish and protect proprietary
rights in its products and technologies. The Company has been issued certain
U.S. and Canadian patents with respect to limited aspects of its single purpose
network access technology. The Company has not obtained significant patent
protection for its Access System 2000 technology. The Company is not currently
aware of any material past infringement on its technology by third parties.
There can be no assurance that third parties have not or will not develop
equivalent technologies or products without infringing the Company's patents or
that the Company's patents would be held valid and enforceable by a court having
jurisdiction over a dispute involving such patents. The Company has also entered
into confidentiality and invention assignment agreements with its employees, and
enters into non-disclosure agreements with its suppliers, distributors and
appropriate customers so as to limit access to and disclosure of its proprietary
information. There can be no assurance that these statutory and contractual
arrangements will deter misappropriation of the Company's technologies or
discourage independent third-party development of similar technologies. In the
event such arrangements are insufficient, the Company's business, financial
condition and results of operations could be materially adversely affected. The
laws of certain foreign countries in which the Company's products are or may be
developed, manufactured or sold may not protect the Company's products or
intellectual property rights to the same extent as do the laws of the United
States and thus make the possibility of misappropriation of the Company's
technology and products more likely.
The network access and telecommunications equipment industries are
characterized by the existence of a large number of patents and frequent
litigation based on allegations of patent infringement. From time to time, third
parties may assert exclusive patent, copyright, trademark and other intellectual
property rights to technologies that are important to the Company. The Company
has not conducted a formal patent search relating to the technology used in its
products, due in part to the high cost and limited benefits of a formal search.
In addition, since patent applications in the United States are not publicly
disclosed until the patent issues and foreign patent applications generally are
not publicly disclosed for at least a portion of the time that they are pending,
applications may have been filed which, if issued as patents, would relate to
the
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Company's products. Software comprises a substantial portion of the technology
in the Company's products. The scope of protection accorded to patents covering
software-related inventions is evolving and is subject to a degree of
uncertainty which may increase the risk and cost to the Company if the Company
discovers third party patents related to its software products or if such
patents are asserted against the Company in the future. Patents have been
granted recently on fundamental technologies in software, and patents may issue
which relate to fundamental technologies incorporated into the Company's
products. The Company may receive communications from third parties in the
future asserting that the Company's products infringe or may infringe the
proprietary rights of third parties. In its distribution agreements, the Company
typically agrees to indemnify its customers for all expenses or liabilities
resulting from claimed infringements of patents, trademarks or copyrights of
third parties. In the event of litigation to determine the validity of any
third-party claims, such litigation, whether or not determined in favor of the
Company, could result in significant expense to the Company and divert the
efforts of the Company's technical and management personnel from productive
tasks. In the event of an adverse ruling in such litigation, the Company might
be required to discontinue the use and sale of infringing products, expend
significant resources to develop non-infringing technology or obtain licenses
from third parties. There can be no assurance that licenses from third parties
would be available on acceptable terms, if at all. In the event of a successful
claim against the Company and the failure of the Company to develop or license a
substitute technology, the Company's business, financial condition and results
of operations would be materially adversely affected.
EMPLOYEES
At June 30, 1996, Verilink had 171 full-time employees of whom 53 were
primarily engaged in research and development, 50 in manufacturing and quality
control, 38 in sales and marketing, 13 in field service and 17 in administration
and finance. None of the Company's employees is represented by a collective
bargaining agreement nor has the Company experienced any work stoppage. The
Company considers its relations with its employees to be good. During the fourth
quarter of fiscal 1996 the Company employed approximately 11 temporary and
contract employees.
BACKLOG
Backlog includes all unshipped orders for which the Company has received a
firm purchase order. Orders for the Company's products are usually placed by
customers on an as-needed basis and the Company has typically been able to ship
these products within 30 days after the customer submits a firm purchase order.
Because of the possibility of customer changes in delivery schedules or
cancellation of orders, the Company's backlog as of any particular date may not
be indicative of sales in any future period. The Company's backlog as of June
30, 1995 and June 30, 1996 was approximately $1.6 million and $9.6 million,
respectively.
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RISK FACTORS
Forward-looking Statements. This Report on Form 10-K contains
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Such
forward-looking statements include the Company's plans to introduce ISDN and ATM
functionality on the Access System 2000 platform and the timing of such
introduction, the Company's expectation that the percentage of its sales
represented by Access System 2000 products will increase, and the Company's
plans to develop new products, expand its sales force, expand its customer base
and enter international markets. Such forward-looking statements also include
the Company's expectations concerning factors affecting the markets for its
products, such as demand for increased bandwidth, the migration from private to
public networks, growth in the corporate use of the Internet, deregulation and
increased competition, the introduction of a wide range of new communication
services and technologies (including the potential deployment of ATM and
wireless product and service developments) and growth in the international
market for network access solutions. Actual results could differ from those
projected in any forward-looking statements for the reasons detailed in the
other sections of this Report on Form 10-K. The forward-looking statements are
made as of the date of this Report on Form 10-K, and the Company assumes no
obligation to update the forward-looking statements, or to update the reasons
why actual results could differ from those projected in the forward-looking
statements. You should consult the risk factors listed from time to time in the
Company's Reports on Form 10-Q, 8-K, 10-K and Annual Report to Stockholders.
Dependence on Recently Introduced Products and Products Under Development.
The Company's future results of operations are highly dependent on market
acceptance of existing and future applications for the Company's Access System
2000 product line. The Access System 2000 product line represented approximately
70% of sales in fiscal year 1996. Increased market acceptance of the Company's
Access System 2000 products is dependent on a number of factors, not all of
which are in the Company's control, including the continued growth in the use of
bandwidth intensive applications, continued deployment of new telecommunications
services, market acceptance of integrated access devices in general, the
availability and price of competing products and technologies, and the success
of the Company's sales efforts. Failure of the Company's products to achieve
increased market acceptance would have a material adverse effect on the
Company's business, financial condition and results of operations. Failure to
introduce new products in a timely manner could cause companies to purchase
products from competitors and have a material adverse effect on the Company's
business, financial condition and results of operations. Due to a variety of
factors, the Company may experience delays in developing its planned products.
New products may require additional development work, enhancement, testing or
further refinement before they can be made commercially available by the
Company. The Company has in the past experienced delays in the introduction of
Access System 2000 product applications and enhancements due to a variety of
internal factors, such as reallocation of priorities, difficulty in hiring
sufficient numbers of qualified personnel and unforeseen technical obstacles, as
well as to changes in customer requirements. Although the Company does not
believe that such delays have had a material adverse effect on its customer
relationships, such delays have deferred the receipt of revenue from the
products involved. If the Company's Access System 2000 products have
performance, reliability or quality shortcomings, then the Company may
experience reduced orders, higher manufacturing costs, delays in collecting
accounts receivable and additional warranty and service expenses. See "-- Need
to Expand Sales Organization," "Business -- Products" and "Business -- Research
and Development."
Customer Concentration. A small number of customers have accounted for a
majority of the Company's sales in each of the past several fiscal years. In
fiscal 1996, MCI and CompuServe accounted for 29% and 18% of the Company's
sales, respectively, and the Company's top five customers accounted for 64% of
the Company's sales. In fiscal 1995, MCI and CompuServe each accounted for 14%
of the Company's sales and the Company's top five customers accounted for 47% of
sales. In fiscal 1994, MCI accounted for 20% of the Company's sales, and the
Company's top five customers accounted for 46% of sales. Other than MCI and
CompuServe, no customer accounted for more than 10% of the Company's revenue in
fiscal 1996 or fiscal 1995. There can be no assurance that the Company's current
customers will continue to place orders with the Company, that orders by
existing customers will continue at the levels of previous periods, or that the
Company will be able to obtain orders from new customers. The Company's
customers are typically not contractually obligated to purchase any quantity of
products in any particular period. Product sales to major customers have varied
widely from year to year. In some cases, major customers have abruptly
terminated purchases of the Company's products. For example, sales of the
Company's single purpose network access products to AT&T Paradyne represented
24% of sales in fiscal 1993, but declined to 11% and 2% of sales in fiscal 1994
and 1995, respectively, due to the decision by AT&T Paradyne to focus its sales
efforts on competing products developed within the AT&T organization. In
addition, sales to Stratacom, Inc. for
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provision of network management capabilities in a system sold to another AT&T
business unit accounted for 9% of the Company's sales during fiscal 1995. Sales
to Stratacom ceased during the second half of fiscal 1995 due to the decision by
such AT&T business unit to internally provide such management functionality in
its system. Loss of, or a material reduction in orders by, one or more of the
Company's major customers would materially adversely affect the Company's
business, financial condition and results of operations. See "-- Competition,"
"Business -- Customers" and "Business -- Sales and Marketing."
Fluctuations in Quarterly Operating Results. The Company's sales are subject
to quarterly and annual fluctuations due to a number of factors. Most of the
Company's sales are in the form of large orders with short delivery times. The
Company's ability to affect and judge the timing of individual customer orders
is limited. Recently, the Company has experienced large fluctuations in sales
from quarter to quarter due to a wide variety of factors, such as delay,
cancellation or acceleration of customer projects, and other factors discussed
below. The Company's sales for a given quarter may depend to a significant
degree upon planned product shipments to a single customer, often related to
specific equipment deployment projects. The Company has experienced both
acceleration and slowdown in orders related to such projects, causing changes in
the sales level of a given quarter relative to both the preceding and subsequent
quarters. Sales to MCI and CompuServe, the Company's two largest current
customers, have varied by as much as $1 million and $700,000, respectively,
between consecutive quarters, and sales to other current customers have also
varied by as much as $800,000 from quarter to quarter.
Delays or lost sales can be caused by other factors beyond the Company's
control, including late deliveries by other vendors of components in a
customer's system, changes in implementation priorities, slower than anticipated
growth in demand for the services that the Company's products support and delays
in obtaining regulatory approvals for new services. Delays and lost sales have
occurred in the past and may occur in the future. Operating results in recent
periods have been adversely affected by delays in receipt of significant
purchase orders from customers. In addition, the Company has in the past
experienced delays as a result of the need to modify its products to comply with
unique customer specifications. These and similar delays or lost sales could
materially adversely affect the Company's business, financial condition and
results of operations. See "-- Customer Concentration," and "-- Dependence on
Component Availability and Key Suppliers."
The Company's backlog at the beginning of each quarter typically is not
sufficient to achieve expected sales for that quarter. To achieve its sales
objective, the Company is dependent upon obtaining orders in a quarter for
shipment in that quarter. Furthermore, the Company's agreements with its
customers typically provide that they may change delivery schedules and cancel
orders within specified timeframes, typically up to 30 days prior to the
scheduled shipment date, without significant penalty. The Company's customers
have in the past built, and may in the future build, significant inventory in
order to facilitate more rapid deployment of anticipated major projects or for
other reasons. Decisions by such customers to reduce their inventory levels
could lead to reductions in purchases from the Company. These reductions, in
turn, could cause fluctuations in the Company's operating results and could have
an adverse effect on the Company's business, financial condition and results of
operations in the periods in which the inventory is reduced.
The Company's industry is characterized by declining prices of existing
products, therefore continual improvement of manufacturing efficiencies and
introduction of new products and enhancements to existing products are required
to maintain gross margins. In response to customer demands or competitive
pressures, or to pursue new product or market opportunities, the Company may
take certain pricing or marketing actions, such as price reductions, volume
discounts, or provision of services at below-market rates. These actions could
materially and adversely affect the Company's operating results.
Operating results may also fluctuate due to factors such as the timing of
new product announcements and introductions by the Company, its major customers
or its competitors, delays in new product introductions by the Company, market
acceptance of new or enhanced versions of the Company's products, changes in the
product or customer mix of sales, changes in the level of operating expenses,
competitive pricing pressures, the gain or loss of significant customers,
increased research and development and sales and marketing expenses associated
with new product introductions, and general economic conditions. All of the
above factors are difficult for the Company to forecast, and these or other
factors can materially adversely affect the Company's business, financial
condition and results of operations for one quarter or a series of quarters. The
Company's expense levels are based in part on its expectations regarding future
sales and are fixed in the short term to a large extent. Therefore, the Company
may be unable to adjust spending in a timely manner to
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compensate for any unexpected shortfall in sales. Any significant decline in
demand relative to the Company's expectations or any material delay of customer
orders could have a material adverse effect on the Company's business, financial
condition and results of operations. There can be no assurance that the Company
will be able to sustain profitability on a quarterly or annual basis. In
addition, it is possible that in some future quarter, the Company's operating
results may be below the expectations of public market analysts and investors.
In such event the price of the Company's Common Stock would likely be materially
and adversely affected. See "-- Potential Volatility of Stock Price" and
"Business -- Research and Development."
Need to Expand Sales Organization. Currently the Company sells its products
to a small number of customers through a relatively small sales force. The
Company's strategy is to distribute its products to a broader customer base,
which will require the Company to significantly expand its sales force. There
can be no assurance that the Company will be able to recruit, train, motivate
and manage additional qualified sales personnel with the requisite experience
and knowledge. Availability of qualified sales personnel is limited, and
competition for experienced sales personnel in the network access and
telecommunications equipment industries is intense. The failure to timely expand
the Company's sales force could have a material adverse effect on the Company's
business, financial condition and results of operations. See "-- Customer
Concentration," "-- Management of Growth" and "-- Dependence on Key Personnel."
Dependence on Component Availability and Key Suppliers. On-time delivery of
the Company's products depends upon the availability of components and
subsystems used in its products. The Company depends in part upon suppliers to
manufacture, assemble and deliver components in a timely and satisfactory
manner. The Company obtains several components and licenses certain embedded
software from single sources. There can be no assurance that these suppliers
will continue to be able and willing to meet the Company's requirements for any
such components. The Company generally does not have any long-term contracts
with such suppliers, other than software vendors. Any significant interruption
in the supply of, or degradation in the quality of, any such item could have a
material adverse effect on the Company's results of operations. The Company has
no current plans to significantly expand its supplier base.
Purchase orders from the Company's customers frequently require delivery
quickly after placement of the order. Because the Company does not maintain
significant component inventories, delay in shipment by a supplier could lead to
lost sales. The Company uses internal forecasts to determine its general
materials and components requirements. Lead times for materials and components
may vary significantly, and depend on factors such as specific supplier
performance, contract terms and general market demand for components. If orders
vary from forecasts, the Company may experience excess or inadequate inventory
of certain materials and components. From time to time, the Company has
experienced shortages and allocations of certain components, resulting in delays
in fulfillment of customer orders. Such shortages and allocations could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "-- Fluctuations in Quarterly Operating Results" and
"Business -- Manufacturing and Quality."
Competition. The market for network access and telecommunications equipment
is highly competitive, and the Company expects competition to increase in the
future. This market is subject to rapid technological change, regulatory
developments and emerging industry standards. The Company faces different
competitive environments for its Access System 2000 products than for its single
purpose network access products.
The market for integrated access devices such as the Company's Access System
2000 is newly emerging and is subject to rapid change. The Company believes that
the primary competitive factors in this market are the development and rapid
introduction of new product features, price/performance, support for multiple
types of communications services, network management, reliability and safety,
and quality of customer support. There can be no assurance that the Company's
new products and products under development will be able to compete successfully
with respect to these or other factors. The Company's principal competition to
date for its current Access System 2000 products has been from Digital Link,
Kentrox (both in Kentrox's own products and products supplied to Kentrox by
Premisys), and Larscom. As the Company develops new products for the Access
System 2000 line, the Company expects to increasingly compete with Premisys. The
Company expects additional competition from companies that are currently
competitors in the market for the Company's single purpose network access
products, as such companies develop new products. In addition, the Company
expects competition from companies in the computer networking market and other
related markets such as Newbridge Networks and Ascend Communications. To the
extent that current or potential competitors can expand their current offerings
to include products
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that have functionality similar to the Company's products and planned products,
the Company's business, financial condition and results of operations could be
materially adversely affected.
The Company believes that the market for its single purpose network access
products is mature. The Company believes that the principal competitive factors
in this market are price, installed base and quality of customer support. In
this market, the Company primarily competes with Adtran, Digital Link, Kentrox
and Larscom. There can be no assurance that such companies or other competitors
will not introduce new products at a lower price and/or that provide greater
functionality than the Company's single purpose network access products. In
addition, the Company anticipates that competitors and customers may develop
products that could be used for selected applications for which the Company's
products are currently provided. Successful, timely development of such products
could reduce the level of demand for the Company's products. The Company does
not expect to spend significant resources, if any, on research and development
of its single purpose network access products. There can be no assurance that
the Company's single purpose network access products will be competitive in the
future. AT&T Paradyne, a company that had been a major customer in fiscal 1993,
developed a product for use in applications addressed by one of the Company's
single purpose network access products and subsequently substantially reduced
orders for the Company's products.
Many of the Company's current and potential competitors have substantially
greater technical, financial, manufacturing and marketing resources than the
Company. In addition, many of the Company's competitors have long-established
relationships with network service providers. There can be no assurance that the
Company will have the financial resources, technical expertise, manufacturing,
marketing, distribution and support capabilities to compete successfully in the
future. See "Business -- Competition" and "Business -- Research and
Development."
Rapid Technological Change. The network access and telecommunications
equipment markets are characterized by rapidly changing technologies and
frequent new product introductions. The rapid development of new technologies
increases the risk that current or new competitors could develop products that
would reduce the competitiveness of the Company's products. The Company's
success will depend to a substantial degree upon its ability to respond to
changes in technology and customer requirements. This will require the timely
selection, development and marketing of new products and enhancements on a
cost-effective basis. The development of new, technologically advanced products
is a complex and uncertain process, requiring high levels of innovation. The
development of new products for the integrated access market requires competence
in the general areas of telephony, data networking, network management and
wireless telephony as well as specific technologies such as SMDS, ATM and ISDN.
Further, the communications industry is characterized by the need to design
products which meet industry standards for safety, emissions and network
interconnection. With new and emerging technologies and service offerings from
network service providers, such standards are often changing or unavailable. As
a result, there is a potential for product development delay due to the need for
compliance with new or modified standards. The introduction of new and enhanced
products also requires that the Company manage transitions from older products
in order to minimize disruptions in customer orders, avoid excess inventory of
old products and ensure that adequate supplies of new products can be delivered
to meet customer orders. There can be no assurance that the Company will be
successful in developing, introducing or managing the transition to new or
enhanced products or that any such products will be responsive to technological
changes or will gain market acceptance. The Company's business, financial
condition and results of operations would be materially adversely affected if
the Company were to be unsuccessful, or to incur significant delays, in
developing and introducing such new products or enhancements. See "-Dependence
on Recently Introduced Products and Products under Development" and "Business --
Research and Development."
Management of Growth. The Company has recently experienced and may continue
to experience growth in the number of its employees and the scope of its
operations. In particular, the Company intends to increase its sales, marketing
and support staff. These increases will result in increased responsibilities for
management. To manage potential future growth effectively, the Company must
improve its operational, financial and management information systems and must
hire, train, motivate and manage a growing number of employees. The future
success of the Company also will depend on its ability to increase its customer
support capability and to attract and retain qualified technical, sales,
marketing and management personnel, for whom competition is intense. In
particular, the current availability of qualified sales and engineering
personnel is quite limited, and competition among companies for such personnel
is intense. The Company is currently attempting to hire a number of sales and
engineering personnel and has experienced delays in filling such positions.
During strong business cycles, the Company expects to experience continued
difficulty in filling its needs for
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qualified sales, engineering and other personnel. There can be no assurance that
the Company will be able to effectively achieve or manage any such growth, and
failure to do so could delay product development cycles or otherwise have a
material adverse effect on the Company's business, financial condition and
results of operations. See "-- Need to Expand Sales Organization," "--
Dependence on Key Personnel," "Business -- Employees."
Compliance with Regulations and Evolving Industry Standards. The market for
the Company's products is characterized by the need to meet a significant number
of communications regulations and standards, some of which are evolving as new
technologies are deployed. In the United States, the Company's products must
comply with various regulations defined by the Federal Communications Commission
and standards established by Underwriters Laboratories and Bell Communications
Research. For some public carrier services, installed equipment does not fully
comply with current industry standards, and this noncompliance must be addressed
in the design of the Company's products. Standards for new services such as
frame relay and ATM are still evolving. As these standards evolve, the Company
will be required to modify its products or develop and support new versions of
its products. The failure of the Company's products to comply, or delays in
compliance, with the various existing and evolving industry standards could
delay introduction of the Company's products, which could have a material
adverse effect on the Company's business, financial condition and results of
operations.
Government regulatory policies are likely to continue to have a major impact
on the pricing of existing as well as new public network services and therefore
are expected to affect demand for such services and the telecommunications
products that support such services. Tariff rates, whether determined by network
service providers or in response to regulatory directives, may affect the cost
effectiveness of deploying communication services. Such policies also affect
demand for telecommunications equipment, including the Company's products.
Risks Associated With Entry into International Markets. The Company has had
minimal direct sales to international customers to date. The Company has little
experience in international markets, but intends to expand the sales of its
products outside of the United States and to enter certain international
markets, which will require significant management attention and financial
resources. Conducting business outside of the United States is subject to
certain risks, including longer payment cycles, unexpected changes in regulatory
requirements and tariffs, difficulties in staffing and managing foreign
operations, greater difficulty in accounts receivable collection and potentially
adverse tax consequences. To the extent any Company sales are denominated in
foreign currency, the Company's sales and results of operations may also be
directly affected by fluctuations in foreign currency exchange rates. In order
to sell its products internationally, the Company must meet standards
established by telecommunications authorities in various countries, as well as
recommendations of the Consultative Committee on International Telegraph and
Telephony. A delay in obtaining, or the failure to obtain, certification of its
products in countries outside the United States could delay or preclude the
Company's marketing and sales efforts in such countries, which could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "Business -- Sales and Marketing."
Risk of Third Party Claims of Infringement. The network access and
telecommunications equipment industries are characterized by the existence of a
large number of patents and frequent litigation based on allegations of patent
infringement. From time to time, third parties may assert exclusive patent,
copyright, trademark and other intellectual property rights to technologies that
are important to the Company. The Company has not conducted a formal patent
search relating to the technology used in its products, due in part to the high
cost and limited benefits of a formal search. In addition, since patent
applications in the United States are not publicly disclosed until the patent
issues and foreign patent applications generally are not publicly disclosed for
at least a portion of the time that they are pending, applications may have been
filed which, if issued as patents, would relate to the Company's products.
Software comprises a substantial portion of the technology in the Company's
products. The scope of protection accorded to patents covering software-related
inventions is evolving and is subject to a degree of uncertainty which may
increase the risk and cost to the Company if the Company discovers third party
patents related to its software products or if such patents are asserted against
the Company in the future. Patents have been granted recently on fundamental
technologies in software, and patents may issue which relate to fundamental
technologies incorporated into the Company's products. The Company may receive
communications from third parties in the future asserting that the Company's
products infringe or may infringe the proprietary rights of third parties. In
its distribution agreements, the Company typically agrees to indemnify its
customers for any expenses or liabilities, generally without limitation,
resulting from claimed infringements of patents, trademarks or copyrights of
third parties. In the event of litigation to determine the validity of any
third-party claims, such litigation, whether or not
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determined in favor of the Company, could result in significant expense to the
Company and divert the efforts of the Company's technical and management
personnel from productive tasks. In the event of an adverse ruling in such
litigation, the Company might be required to discontinue the use and sale of
infringing products, expend significant resources to develop non-infringing
technology or obtain licenses from third parties. There can be no assurance that
licenses from third parties would be available on acceptable terms, if at all.
In the event of a successful claim against the Company and the failure of the
Company to develop or license a substitute technology, the Company's business,
financial condition and results of operations would be materially adversely
affected. See "Business -- Intellectual Property and Other Proprietary Rights."
Limited Protection of Intellectual Property. The Company relies upon a
combination of patent, trade secret, copyright and trademark laws and
contractual restrictions to establish and protect proprietary rights in its
products and technologies. The Company has been issued certain U.S. and Canadian
patents with respect to limited aspects of its single purpose network access
technology. The Company has not obtained significant patent protection for its
Access System 2000 technology. There can be no assurance that third parties have
not or will not develop equivalent technologies or products without infringing
the Company's patents or that the Company's patents would be held valid and
enforceable by a court having jurisdiction over a dispute involving such
patents. The Company has also entered into confidentiality and invention
assignment agreements with its employees, and enters into non-disclosure
agreements with its suppliers, distributors and appropriate customers so as to
limit access to and disclosure of its proprietary information. There can be no
assurance that these statutory and contractual arrangements will deter
misappropriation of the Company's technologies or discourage independent
third-party development of similar technologies. In the event such arrangements
are insufficient, the Company's business, financial condition and results of
operations could be materially adversely affected. The laws of certain foreign
countries in which the Company's products are or may be developed, manufactured
or sold may not protect the Company's products or intellectual property rights
to the same extent as do the laws of the United States and thus make the
possibility of misappropriation of the Company's technology and products more
likely. See "Business -- Intellectual Property and Other Proprietary Rights."
Dependence on Key Personnel. The Company's future success will depend to a
large extent on the continued contributions of its executive officers and key
management, sales and technical personnel, including Leigh S. Belden, the
Company's President and Chief Executive Officer, and Steven C. Taylor, the
Company's Chief Technical Officer. The Company does not maintain key man life
insurance on any of such persons and none of such persons has an employment
agreement with the Company, except for insurance on and contracts with Mr.
Belden and Mr. Taylor. Each of the Company's executive officers, and key
management, sales and technical personnel would be difficult to replace. The
loss of the services of one or more of the Company's executive officers or key
personnel, or the inability to continue to attract qualified personnel could
delay product development cycles or otherwise have a material adverse effect on
the Company's business, financial condition and results of operations. See "--
Management of Growth," "Business -- Employees."
Control of the Company; Antitakeover Effects of Certain Charter Provisions.
The current officers, directors and holders of five percent or more of the
Company's Common Stock own approximately 53% of the outstanding Common Stock.
Accordingly, these stockholders, if they were to act as a group, would be able
to elect all of the Company's directors, increase the authorized capital and
otherwise control the policies of the Company. The Company's Board of Directors
has the authority to issue up to 1,000,000 shares of Preferred Stock and to
determine the price, rights, preferences and privileges of those shares without
any further vote or action by the stockholders. The rights of the holders of
Common Stock will be subject to, and may be adversely affected by, the rights of
the holders of any Preferred Stock that may be issued in the future. The
issuance of shares of Preferred Stock, while potentially providing desirable
flexibility in connection with possible acquisitions and other corporate
purposes, could have the effect of making it more difficult for a third party to
acquire a majority of the outstanding voting stock of the Company. The Company
has no present intention to issue shares of Preferred Stock. In addition, the
Company is subject to the anti-takeover provisions of Section 203 of the
Delaware General Corporation Law, which will prohibit the Company from engaging
in a "business combination" with an "interested stockholder" for a period of
three years after the date of the transaction in which the person became an
interested stockholder, unless the business combination is approved in a
prescribed manner. The application of Section 203 also could have the effect of
delaying or preventing a change of control of the Company. Furthermore, certain
provisions of the Company's Amended and Restated Certificate of Incorporation,
including provisions that provide for the Board of Directors to be divided into
three classes to serve for staggered three-year terms, may have the effect of
delaying or
18
<PAGE> 19
preventing a change of control of the Company, which could adversely affect the
market price of the Company's Common Stock.
Potential Volatility of Stock Price. The trading price of the Company's
Common Stock could be subject to wide fluctuations in response to quarter to
quarter variations in operating results, announcements of technological
innovations or new products by the Company or its competitors, developments with
respect to patents or proprietary rights, general conditions in the
telecommunication network access and equipment industries, changes in earnings
estimates by analysts, or other events or factors. In addition, the stock market
has experienced extreme price and volume fluctuations, which have particularly
affected the market prices of many technology companies and which have often
been unrelated to the operating performance of such companies. The Company's
sales or operating results in future quarters may be below the expectations of
public market securities analysts and investors. In such event, the price of the
Company's Common Stock would likely decline, perhaps substantially. These
Company-specific factors or broad market fluctuations may materially adversely
affect the market price of the Company's Common Stock.
Shares Eligible for Future Sale. Sales of substantial amounts of Common
Stock in the public market after the date of this Report on Form 10-K could
adversely affect the prevailing market price of the Common Stock. As of
September 11, 1996, there were approximately 13,147,746 shares of Common Stock
outstanding. Beginning 180 days after June 10, 1996, approximately 2,671,758
shares, which are "restricted" shares ("Restricted Shares") under the Securities
Act of 1933, as amended (the "Securities Act"), will first become eligible for
sale in the public market pursuant to Rules 144 and 701 promulgated under the
Securities Act, as a result of the expiration of certain lock-up agreements with
the Company's underwriters, or due to a combination of the foregoing. Of the
Restricted Shares that will first become eligible for sale in the public market
approximately 180 days after June 10, 1996, approximately 848,000 shares will be
subject to certain volume limitations and other resale restrictions pursuant to
Rule 144. Beginning 270 days after June 10, 1996, approximately 4,812,838
additional shares will become eligible for sale subject to the provisions of
Rule 144 upon the expiration of agreements not to sell such shares entered into
between the Company's underwriters and such stockholders. In addition, options
to purchase an additional approximately 318,014 shares will be vested and
exercisable, and the shares issuable upon exercise thereof eligible for sale 180
days following June 10, 1996, upon expiration of certain lock-up agreements. In
addition, the Commission has proposed revisions to Rule 144 and Rule 144(k), the
effect of which would be to shorten the holding period under Rule 144 from two
years to one year and to shorten the holding period under Rule 144(k) from three
years to two years. If enacted, these proposed revisions would increase,
potentially substantially, the number of shares that would be available for sale
in the public market 180 days after June 10, 1996. Any shares subject to lock-up
agreements may be released at any time without notice by Hambrecht & Quist LLC.
The Company has filed a registration statement on Form S-8 registering
approximately 1,524,498 shares of Common Stock reserved for issuance under its
Amended and Restated 1993 Stock Option Plan and 300,000 shares of Common Stock
reserved for issuance under its Employee Stock Purchase Plan. Shares of Common
Stock issued pursuant to these plans will be available for sale in the public
market, subject to expiration of the lock-up agreement with the Company's
underwriters and to Rule 144 volume limitations applicable to affiliates.
ITEM 2. PROPERTIES
The Company's headquarters and principal administrative, engineering and
manufacturing facility is located in a building containing approximately 55,000
square feet located in San Jose, California. The Company leases this building
through April 2001 from a partnership which is comprised of Leigh S. Belden and
Steven C. Taylor. The Company believes this lease was made on terms that are no
less favorable to the Company than would have been obtained from unaffiliated
third parties. The Company believes its current facility is suitable for and
adequate to support its present level of operations and believes that future
growth can be accommodated by leasing additional space near this facility.
ITEM 3. LEGAL PROCEEDINGS
The Company is not currently involved in any material legal actions. From
time to time, however, the Company may be subject to claims and lawsuits arising
in the normal course of business.
19
<PAGE> 20
PART II
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
In April 1996, in connection with the Company's initial public offering,
stockholders holding more than two-thirds of the outstanding voting stock of the
Company approved by written consent: (1) to amend the Company's Certificate of
Incorporation to (i) authorize an additional 30,000,000 shares of Common Stock
for a total of 40,000,000 shares (post-split) and an additional 999,000 shares
of undesignated Preferred Stock for a total of 1,000,000 shares, (ii) to provide
for a classified Board of Directors divided into three classes of directors
serving staggered three-year terms, (iii) to effect a two-for-one forward split
of the outstanding Common Stock of the Company, (2) to amend the Company's
Amended and Restated Bylaws to effect the foregoing resolutions, (3) to further
amend the Company's Amended and Restated 1993 Stock Option Plan to increase the
shares reserved thereunder by an additional 500,000 shares (post-split) and to
make certain other changes to conform the Amended and Restated 1993 Stock Option
Plan to comply with rules applicable to companies registered under the
Securities Exchange Act of 1934, as amended, and (4) to adopt the 1996 Employee
Stock Purchase Plan.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
As of September 11, 1996 the Company had 132 stockholders of record and on
September 11, 1996 the high and low prices of the Company's Common Stock were
$22.88 and $22.50, respectively. The Company has never declared or paid
dividends on its capital stock and does not intend to pay dividends in the
foreseeable future. In addition, the Company's existing loan agreement prohibits
the Company from paying cash dividends without the lender's consent. The
information regarding the market price range of the Company's Common Stock
during the fourth quarter of fiscal 1996 is incorporated by reference to the
portion of the Company's 1996 Annual Report to Stockholders under the caption
"Common Stock Profile."
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The information required by this item is incorporated by reference to the
same-captioned portion of the Company's 1996 Annual Report to Stockholders.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information required by this item is incorporated by reference to the
same-captioned portion of the Company's 1996 Annual Report to Stockholders.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Report of Price Waterhouse LLP, Independent Accountants, and the
Consolidated Financial Statements and the related Notes to Consolidated
Financial Statements of Verilink Corporation are incorporated by reference to
the same-captioned portions of the Company's 1996 Annual Report to Stockholders.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
20
<PAGE> 21
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is incorporated by reference to the
Company's Proxy Statement.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference to the
Company's Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated by reference to the
Company's Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated by reference to the
Company's Proxy Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Report:
1. Financial Statements.
The following consolidated financial statements of Verilink Corporation
are incorporated by reference to the same-captioned portions of the
Company's 1996 Annual Report to Stockholders:
Consolidated Balance Sheets - June 30, 1996 and 1995
Consolidated Statements of Operations - Years Ended June 30, 1996,
1995 and 1994
Consolidated Statements of Cash Flow - Years Ended June 30, 1996,
1995, and 1994
Consolidated Statements of Stockholders' Equity - Years Ended June
30, 1996, 1995 and 1994
Notes to Consolidated Financial Statements
The Report of Price Waterhouse LLP, Independent Accountants is
incorporated by reference to the same-captioned portion of the
Company's 1996 Annual Report to Stockholders.
2. Financial Statement Schedules
Report of Independent Accountants on Financial Statement Schedule
(reference is made to page 24)
Schedule II -- Valuation and Qualifying Accounts (reference is made to
page 25)
Schedules other than that listed above have been omitted since they are
not required or are not applicable or the required information is shown
in the consolidated financial statements or related notes.
21
<PAGE> 22
3. Exhibits.
3.1 Registrant's Amended and Restated Certificate of
Incorporation. (1)
3.2 Registrant's Amended and Restated Bylaws. (1)
4.1 Reference is made to Exhibits 3.1 and 3.2.
10.1 Common Stock and Option Purchase Agreement, dated as of
June 27, 1985 between the Registrant and the stockholders
set forth herein, and Standstill Agreement dated as of
November 15, 1989 between the Registrant, TA Associates,
and the stockholders set forth therein. (1)
10.2 Form of Indemnification Agreement between the Registrant
and each of its executive officers and directors. (1)
10.3* Employment Agreement between the Registrant and Leigh S.
Belden dated as of April 16, 1986. (1)
10.4* Employment Agreement between the Registrant and Steven C.
Taylor dated as of April 16, 1986. (1)
10.5* Executive Incentive Compensation Agreement between the
Registrant and Timothy G. Conley dated as of July 1, 1995.
(1)
10.6* Executive Incentive Compensation Agreement between the
Registrant and James G. Regel dated as of July 1, 1995.
(1)
10.7 Common Stock Purchase Agreement and Promissory Note
between the Registrant and Leigh S. Belden each dated as
of September 16, 1993. (1)
10.8 Promissory Notes of Timothy G. Conley in favor of the
Registrant dated as of November 16, 1995 and January 2,
1996. (1)
10.9 Promissory Note of James G. Regel in favor of the
Registrant dated as of January 1, 1996. (1)
10.10 Promissory Note of Henry L. Tinker in favor of the
Registrant dated as of November 16, 1995. (1)
10.11 Promissory Note of Howard Oringer in favor of the
Registrant dated as of January 2, 1996. (1)
10.12 Lease Agreement between the Registrant and Baytech
Associates, a California general partnership, dated
February 27, 1986, and Memorandum of Lease Modification
dated January 22, 1987. (1)
10.13+ Software License Agreement between the Registrant and
Integrated Systems, Inc. dated January 27, 1993, as
amended. (1)
10.14* Registrant's Amended and Restated 1993 Stock Option Plan,
including forms of agreements thereunder. (1)
10.15* Form of Registrant's 1996 Employee Stock Purchase Plan,
including forms of agreements thereunder. (1)
11.1 Statement regarding calculation of net income per share.
13.1 Annual Report to Stockholders.
22
<PAGE> 23
23.1 Consent of Price Waterhouse LLP.
27.1 Financial Data Schedule.
(b) Reports on Form 8-K.
N/A
-----------------
(1) Incorporated by reference to identically numbered Exhibit to the
Company's Registration Statement on Form S-1 (Commission File No.
333-4010), which became effective on June 10, 1996.
* Management contracts or compensatory plans or arrangements.
+ Confidential treatment granted as to portions of this exhibit.
23
<PAGE> 24
REPORT OF INDEPENDENT ACCOUNTANTS ON
FINANCIAL STATEMENT SCHEDULE
To the Board of Directors
of Verilink Corporation
Our audits of the consolidated financial statements referred to in our
report dated July 19, 1996 appearing in the 1996 Annual Report to Stockholders
of Verilink Corporation (which report and consolidated financial statements are
incorporated by reference in this Annual Report on Form 10-K) also included an
audit of the Financial Statement Schedule listed in Item 14(a) of this Form
10-K. In our opinion, this Financial Statement Schedule presents fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements.
PRICE WATERHOUSE LLP
San Jose, California
July 19, 1996
24
<PAGE> 25
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
INVENTORY RESERVES
(in thousands)
<TABLE>
<CAPTION>
Year Ended June 30,
-------------------
1996 1995 1994
----- ----- -----
<S> <C> <C> <C>
Balance at beginning of period $ 819 $ 814 $ 640
Additions charged to statement of operations -- 5 174
Deductions from reserves (161) -- --
----- ----- -----
Balance at end of period $ 658 $ 819 $ 814
===== ===== =====
</TABLE>
25
<PAGE> 26
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Verilink Corporation
September 27, 1996 By: /s/ Leigh S. Belden
---------------
Leigh S. Belden
President, Chief Executive Officer and Director
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Leigh S. Belden President, Chief Executive Officer and Director (Principal September 27, 1996
--------------- Executive Officer)
Leigh S. Belden
/s/ Timothy G. Conley Vice President, Finance and Chief Financial Officer September 27, 1996
--------------- (Principal Financial and Accounting Officer)
Timothy G. Conley
/s/ Howard Oringer Chairman of the Board of Directors September 27, 1996
--------------
Howard Oringer
/s/ Steven C. Taylor Chief Technical Officer, September 27, 1996
----------------- Vice Chairman of the Board of Directors
Steven C. Taylor
/s/ David L. Lyon Director September 27, 1996
---------------
David L. Lyon
</TABLE>
26
<PAGE> 1
EXHIBIT 11.1
STATEMENT REGARDING CALCULATION OF NET INCOME PER SHARE (1)
(in thousands, except per share date)
<TABLE>
<CAPTION>
Year Ended June 30,
---------------------------------
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
Net income .............................. $ 2,716 $ 448 $ 2,263
======= ======= =======
Weighted average shares outstanding:
Common stock ......................... 10,180 9,520 9,187
Common stock issuable upon exercise of
stock options ...................... 513 443 --
Common stock issuable upon exercise of
stock options granted from March 31,
1995 through June 10, 1996 (2) ..... 674 713 713
------- ------- -------
Weighted average common shares and
equivalents .......................... 11,367 10,676 9,900
======= ======= =======
Net income per share .................... $ 0.24 $ 0.04 $ 0.23
======= ======= =======
</TABLE>
(1) This exhibit should be read in conjunction with Note 1 of Notes to
Consolidated Financial Statements.
(2) Stock options granted (using the treasury stock method and the initial
public offering price) have been included in the calculation of common
equivalent shares as if they were outstanding for all periods presented
through June 10, 1996.
<PAGE> 1
EXHIBIT 13.1
[LOGO-verilink corporation]
Annual Report
1996
<PAGE> 2
CORPORATE PROFILE
Verilink Corporation develops, manufactures and markets integrated access
products for telecommunications network service providers and corporate end
users. The Company's Access System 2000 product line provides flexible access
solutions for a broad range of network services. Verilink designed the Access
System 2000 platform with modular hardware and software to enable its customers
to access increased network capacity and adopt new communications services in a
cost-effective manner. The Company's strategy is to continue to expand the
functionality of its integrated access product line as its customers access new
network services and migrate to emerging telecommunications technologies.
Verilink completed an initial public offering on June 11, 1996. Its common stock
is traded on the NASDAQ National Market under the symbol VRLK.
CONTENTS
<TABLE>
<S> <C>
Financial Highlights 1
Letter to Our Stockholders 2
Financial Information
Management's Discusssion and Analysis
of Financial Condition and Results
of Operations 8
Consolidated Financial Statements 14
Notes to Consolidated Financial Statements 18
Report of Independent Accountants 27
Selected Consolidated Financial Data 28
Quarterly Financial Data 28
Common Stock Profile 28
Corporate Information 29
</TABLE>
<PAGE> 3
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
FOR THE YEAR ENDED JUNE 30,
---------------------------
1996 1995 % CHANGE
- ----------------------------------------------------------------------------------------
(in thousands, except per share data)
<S> <C> <C> <C>
Sales $41,608 $31,447 32%
Gross profit 21,174 14,620 45%
Income from operations 3,232 347 831%
Net income 2,716 448 506%
Net income per share $ 0.24 $ 0.04 500%
Shares used to compute net income per share 11,367 10,676 6%
Cash and cash equivalents $40,542 $ 3,243 1150%
Working capital 45,015 5,695 690%
Total assets 55,218 12,617 338%
Total stockholders' equity 47,234 7,433 535%
</TABLE>
[GRAPHIC ]
<PAGE> 4
LETTER TO OUR STOCKHOLDERS
To Our Fellow Stockholders:
Fiscal 1996 was a particularly eventful one for Verilink, reflecting
the continued expansion of the market for communications services and our
ability to meet the growing demand for access to those services. We would like
to tell you about some of the year's highlights that preceded our successful
initial public offering in June and contributed to record sales for the year.
We are particularly pleased to report that sales for the fiscal year
ended June 30, 1996 were $41,608,000, an increase of 32 percent over the prior
year's sales of $31,447,000. Net income for the year was $2,716,000, a 506
percent increase over net income of $448,000 for the previous fiscal year.
Earnings per share were $.24, compared with $.04 in fiscal 1995.
Since this is our first annual report to our stockholders as a publicly
owned company, let us tell you about Verilink's business. Verilink products
provide access to existing and emerging communications services. For example,
when a corporate employee sends an e-mail, logs on to the Internet, or conducts
a videoconference with a remote location, Verilink equipment can be involved
either on the company's
Verilink provides integrated
access solutions that enable
customers to adopt emerging
communications technologies
and services as their business
needs evolve and change.
2
<PAGE> 5
premises, or at the carrier that handles the communication. Our products are
purchased both by network service providers and by large corporations for their
own private networks.
GROWING NEED FOR ACCESS The market for communications services is exploding.
Business users are demanding virtually instant access to more information, in
more forms, wherever they are, which is intensifying the need for fast, easy
access to greater and greater network bandwidth. In addition to the increased
amount of information flowing over public and private networks, many emerging
communications capabilities, like videoconferencing and multimedia applications,
demand significantly higher bandwidth to transmit huge amounts of data. This
demand for increased bandwidth and the growing use of new and existing services
such as frame relay, Integrated Services Digital Network (ISDN), Switched
Multimegabit Data Service (SMDS) and Asynchronous Transfer Mode (ATM) has driven
the expansion of communications networks.
Both corporations and network service providers are finding that they
must manage an increasingly complex web of communications services to meet the
information needs of today's businesses. Whether at the customer premises or the
service provider site, this provides a costly challenge in an environment that
traditionally has required individual, single-purpose
[GRAPHIC "The market for communications services is exploding." ]
3
<PAGE> 6
[GRAPHIC "Demand for increased bandwidth... has driven the expansion of
communications networks." ]
access devices for each type of communications service. For example, one piece
of equipment provided access to dedicated T1 service, a second to frame relay,
and so forth. Each new service needed a new dedicated access device with its own
requirements for physical space, management and maintenance. It is easy to
imagine the increasing complexity and cost of managing such a growing
communications infrastructure.
INTEGRATED ACCESS-OUR SOLUTION Verilink's flagship product, the Access System
2000, is aimed squarely at this emerging market opportunity. The Access System
2000 provides integrated access to multiple communications services from a
single, flexible platform. In place of several dedicated devices, the Access
System 2000 is a single piece of equipment, a system, with individual cards for
different communications services. Most important, the system is scalable; as
access to a new communications service is required, the addition of a single
card is generally all that is necessary.
The convergence of voice, video,
multimedia and data-intensive
applications creates the need for
access to increased network
bandwidth. To meet this
growing demand, Verilink
redefines intelligent network
access by offering an
expandable, modular solution.
4
<PAGE> 7
WAN, INTERNET AND WIRELESS ACCESS The market for access devices is large and
growing rapidly. Within the total access market, however, there are three
specific areas-Wide Area Network (WAN) access, Internet access and wireless
access-where we believe our products offer particularly attractive solutions.
Industry analysts have projected that these three areas will comprise a
worldwide market of nearly $10 billion by the end of the decade.
Businesses that link Local Area Networks at different locations can
rely on the Access System 2000 for WAN access. Internet Service Providers use
the Access System 2000 to provide access to high-speed transmission facilities
between their regional switching centers and within their backbone network
infrastructures. And, the growth of wireless communications services offers yet
a third opportunity for us. Specifically, the emergence of Personal
Communications Services and the ability to send data over wireless networks are
increasing the need for access to wireless networks. Verilink provides this
access.
1996 IN REVIEW In fiscal 1996, Verilink made significant strides toward
addressing the opportunities in WAN, Internet and wireless access. To provide
access to new higher-speed broadband services, we added important functionality
to our Access System 2000 platform. We introduced inverse multiplexing
capability for T1 and E1 (international) lines, and an even higher-speed DS3
access card. This brings the number of communications services supported by the
Access System 2000 to ten.
5
<PAGE> 8
We expanded our relationships with key customers, including MCI,
CompuServe and QUALCOMM, and added significant new customers, such as Northern
Telecom (Nortel) and SunGard Recovery Services Inc.
Augmenting our executive staff, Tom Clark joined Verilink as Vice
President of Engineering. Previously, Tom had been Vice President of Engineering
for Larscom Incorporated. Bob Griffith, formerly Vice President of Carrier Sales
at Network Equipment Technologies, Inc., joined the Company as Vice President of
Sales. David Lyon, Co-founder and President of Pacific Communications Services,
Inc., joined Verilink's Board of Directors, and long-time board member Howard
Oringer became Chairman of the Board.
NEW PRODUCTS, NEW MARKETS While we are pleased with the milestones we reached
during fiscal 1996, we are particularly excited about our plans for the future.
In fiscal 1997 , we expect to introduce ISDN and ATM capabilities for the Access
System 2000 and will continue our major investment in the development of new
communications access solutions.
Verilink protects customer
investments in communications
networks by providing
multiple product applications,
all from a highly reliable and
flexible platform.
6
<PAGE> 9
To date, nearly all of our business has been from within the United
States. In the future, we expect significant opportunities to emerge in
international markets, and we are developing the products and building the
infrastructure to address those markets. Additionally, we are expanding our
sales force and distribution network to further increase and support our growing
customer base.
We believe our business prospects are exciting. Verilink has built a
solid business foundation based on highly reliable products and has an
experienced and motivated team in place to achieve its growth plans. Verilink is
committed to continuing to offer leading-edge communications access solutions.
In closing, we would like to take this opportunity to thank our
stockholders, customers, suppliers and dedicated employees for their support and
contribution to the success of Verilink.
/s/ Steven C. Taylor /s/ Leigh S. Belden
- -------------------- -------------------
Steven C. Taylor Leigh S. Belden
Founder, Vice Chairman & Founder,
Chief Technical Officer President & CEO
[PICTURE FLUSH RIGHT OF SIGNATURES - Steven C. Taylor & Leigh S. Belden]
7
<PAGE> 10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Over the past several years, Verilink has transitioned its business
from supplying single-purpose network access and termination equipment
to supplying integrated network access systems. From its inception in
December 1982 through fiscal 1988, Verilink engaged primarily in the
development, marketing and support of T1 data service units, channel
service units and diagnostic equipment. In fiscal 1989, the Company
began the design of its integrated access product line, the Access
System 2000. Since fiscal 1990, the Company has committed significant
resources to expand the features and functionality of the Access System
2000 product line.These efforts now represent nearly all of the
Company's product development activities. In fiscal 1992, the Company
introduced its first Access System 2000 product application. Sales
related to the Company's Access System 2000 product line represented
70%, 53% and 43% of total sales in fiscal 1996, 1995 and 1994,
respectively. Sales of Access System 2000 products, including recently
developed applications, are expected to represent an increasing
percentage of future sales.
The Company's business is characterized by the concentration of
sales to a limited number of customers. Sales to the Company's top five
customers accounted for 64%, 47% and 46% of sales in fiscal 1996, 1995
and 1994, respectively. These customers are network service providers
(NSPs) and resellers. Sales to NSPs generally relate to the deployment
of equipment for specific projects. Sales for these projects are often
difficult to forecast due to a relatively long sales cycle and
acceleration or delays in the timing of such projects. The Company has
experienced fluctuations in both annual and quarterly sales due to the
timing of receipt of customer orders and decisions by major customers
to cease marketing, purchasing and reselling the Company's products.
Since the Company continues to have significant sales to a small number
of customers, similar sales fluctuations may occur in the future.
The Company sells its products primarily in the United States to
NSPs through a direct sales force and through a variety of resellers,
including original equipment manufacturers (OEMs), value added
resellers (VARs) and distributors. To date, international sales have
not been significant. The Company intends to expand the marketing of
its products generally and to commence sales outside the United States.
8
<PAGE> 11
RESULTS OF OPERATIONS
The following table sets forth certain consolidated statement of operations data
as a percentage of sales for the periods indicated:
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------
1996 1995 1994
-------------------------------
<S> <C> <C> <C>
Sales 100.0% 100.0% 100.0%
Cost of sales 49.1 53.5 51.7
-------------------------------
Gross margin 50.9 46.5 48.3
-------------------------------
Operating expenses:
Research and development 16.8 20.6 16.4
Selling, general and administrative 26.3 24.8 24.1
Total operating expenses 43.1 45.4 40.5
-------------------------------
Income from operations 7.8 1.1 7.8
Interest and other income, net 0.3 0.4 0.1
-------------------------------
Income before income taxes 8.1 1.5 7.9
Provision for income taxes 1.6 0.1 1.7
-------------------------------
Net income 6.5% 1.4% 6.2%
===============================
</TABLE>
The following table summarizes sales by product line for the periods indicated:
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------------
1996 1995 1994
-------------------------------------
<S> <C> <C> <C>
Sales:
Access System 2000 $29,261 $16,519 $15,881
Other products and services 12,347 14,928 20,652
-------------------------------------
Total $41,608 $31,447 $36,533
=====================================
Access System 2000, as a percent of total 70% 53% 43%
=====================================
</TABLE>
9
<PAGE> 12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FISCAL YEARS ENDED JUNE 30, 1996 AND 1995
Sales Sales in fiscal 1996 increased by 32% to $41.6 million as
compared with sales of $31.4 million in fiscal 1995. This was due to an
increase of 77% in sales of Access System 2000 products resulting
primarily from increased sales to MCI and CompuServe associated with
expansion of their networks, as well as the initial shipment of a new
product for Personal Communications Service applications. The increase
in sales between fiscal 1996 and 1995 was offset in part by a decline
in sales of non-Access System 2000 products of 17%, or $2.6 million,
primarily due to reduced sales by resellers. The Company has not made
significant investment in the development of non-Access System 2000
products during recent years and consequently expects such sales to
further decline as a percentage of sales.
During fiscal 1996, sales to MCI, CompuServe and the Company's top
five customers in total accounted for 29%, 18% and 64% of sales,
respectively. Sales to MCI, CompuServe and the Company's top five
customers in total accounted for 14%, 14% and 47%, respectively, of
sales during fiscal 1995.
Gross Profit Gross profit in fiscal 1996 increased by 45% to $21.2
million, as compared with gross profit of $14.6 million in fiscal 1995.
This increase was primarily due to increased sales volume as well as
lower per unit component costs for the Access System 2000. Gross margin
increased from 47% to 51% between these two periods, due to improved
material costs for Access System 2000 products and lower manufacturing
overhead expenses, as a percentage of sales, due to greater sales
volume.
Research and Development Research and development expenses consist
primarily of salaries and other personnel-related expenses, material
costs for development of product prototypes, equipment depreciation,
facility expenses and spending related to outside consultants. Research
and development expenses increased by 8%, to $7.0 million in fiscal
1996, as compared to $6.5 million in fiscal 1995, primarily due to the
addition of personnel and related expenses, but decreased as a
percentage of sales to 17% from 21% over the same period due to
increased sales volume. The Company believes that a significant level
of investment in product research and development is required to remain
competitive and, accordingly, anticipates that research and development
expenses in fiscal 1997 will increase from fiscal 1996 levels. All
research and development costs have been charged to operation as
incurred.
Selling, General and Administrative Selling, general and administrative
expenses consist primarily of personnel-related expenses, travel,
advertising, promotion and outside professional services.
Personnel-related expenses include salaries, sales commissions, bonuses
and profit-sharing. Selling, general and administrative expenses
increased by 40%, to $10.9 million in fiscal 1996, as compared to $7.8
million in fiscal 1995, primarily due to incentive compensation,
including commissions and the amortization of deferred compensation
expense related to the Company's stock option plan.
10
<PAGE> 13
As a percentage of sales, selling, general and administrative expenses
increased to 26% in fiscal 1996 from 25% in fiscal 1995. The Company
expects selling, general and administrative expenses to increase in
amount in the future due to expenses associated with an increased sales
force and the legal, accounting and administrative expenses associated
with public company reporting requirements.
Provision for Income Taxes The provision for income taxes of $663,000
in fiscal 1996 represented an effective tax rate of 20%. The effective
tax rate was less than the combined federal and state statutory rates
primarily due to the recognition of previously reserved deferred tax
assets based on carryback capacity and, to a lesser extent,
expectations of future income in the next twelve months. The provision
for income taxes of $40,000 in fiscal 1995 represented minimum state
income and franchise taxes.
FISCAL YEARS ENDED JUNE 30, 1995 AND 1994
Sales Sales decreased 14% to $31.4 million in fiscal 1995 from $36.5
million in fiscal 1994, primarily due to the decrease in sales of
non-Access System 2000 products, including a $3.4 million decrease in
sales to AT&T Paradyne. Sales of the Company's single purpose network
access products to AT&T Paradyne declined to 2% of sales in fiscal 1995
from 11% of sales in fiscal 1994, due to the decision by AT&T Paradyne
to focus its sales efforts on competing products developed within the
AT&T organization. Sales of Access System 2000 products increased by
the net amount of $638,000, which included a decrease in sales to MCI
of $3.0 million. During fiscal 1995 and 1994, sales to MCI accounted
for 14% and 20%, respectively, of the Company's sales. In addition,
CompuServe accounted for 14% of the Company's sales during fiscal 1995.
Gross Profit Gross profit decreased 17% to $14.6 million in fiscal 1995
from $17.6 million in fiscal 1994, primarily due to the decrease in
sales volume. Gross margin declined to 47% in fiscal 1995 from 48% in
fiscal 1994 due to changes in product mix and a higher rate of
manufacturing overhead expenses as a result of the reduced sales level,
even though such expenses declined in amount.
Research and Development Research and development expenses increased by
9% to $6.5 million in fiscal 1995 from $6.0 million in fiscal 1994,
primarily due to material costs for development of product prototypes.
Selling, General and Administrative Selling, general and administrative
expenses declined by 12% to $7.8 million in fiscal 1995 from $8.8
million in fiscal 1994, primarily due to a reduction in profit-sharing
expenses, which was partially offset by increased personnel-related
expenses as a result of staff additions, primarily in sales and
marketing.
11
<PAGE> 14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Provision for Income Taxes During fiscal 1995, the Company recorded a
tax provision of $40,000, representing minimum state income and
franchise taxes. During fiscal 1994, the Company recorded a provision
for income taxes of $630,000, or 22% of income before taxes, which
included a tax benefit of $659,000 related to a reduction in the
valuation allowance for deferred tax assets.
LIQUIDITY AND CAPITAL RESOURCES
The Company raised $36.8 million through its initial public offering of
common stock in June 1996. Prior to the offering, the primary source of
financing for the Company had been cash flow from operations. In
addition, the Company had used proceeds from the private sale of equity
securities and bank borrowings to support its operations, acquire
capital equipment and finance inventory and accounts receivable growth.
During fiscal 1996, net cash provided by operating activities was
$1.7 million, primarily due to increased profitability. During fiscal
1995, net cash used in operating activities was $2.0 million, primarily
due to the payment of accrued compensation expense. Net cash provided
by operating activities during fiscal 1994 totaled $6.2 million.
The Company made capital expenditures of approximately $958,000,
$782,000 and $861,000 in fiscal 1996, 1995 and 1994, respectively,
primarily for the purchase of computers and test equipment. The Company
expects to incur capital expenditures of approximately $3.0 to $4.0
million in fiscal 1997, primarily for leasehold improvements and
computer and test equipment.
The Company believes that cash generated from the proceeds of its
initial public offering, other available funds and anticipated cash
flows from operations will satisfy the Company's working capital and
capital expenditure requirements through at least the next twelve
months. However, there can be no assurance that future events will not
require the Company to seek additional capital sooner or, if so
required, that adequate capital will be available on terms acceptable
to the Company, or at all.
12
<PAGE> 15
FACTORS THAT MAY AFFECT FUTURE RESULTS
The statements contained in this annual report which are not purely historical
are forward looking statements, including statements regarding the Company's
expectations, hopes or intentions regarding the future. Forward looking
statements include statements regarding the future of the network access and
telecommunications equipment industries and Verilink's strategy under the
heading "Letter to Our Stockholders"; statements regarding Verilink's liquidity,
anticipated cash needs and availability, anticipated expense levels, expected
sales of Access System 2000 products as a percentage of future sales, and
Verilink's intention to expand marketing efforts and commence sales outside the
United States under the heading "Management's Discussion and Analysis of
Financial Condition and Results of Operations." All forward looking statements
included in this document are made as of the date hereof, based on information
available to the Company as of the date hereof, and Verilink assumes no
obligation to update any forward looking statement. It is important to note that
the Company's actual results could differ materially from those in such forward
looking statements.
Among the factors that could cause the Company's actual quarterly and
year-to-year operating results to differ materially are the following:
competition; the mix of products sold; the Company's success in developing,
introducing and shipping new products; the Company's dependence on single or
limited source suppliers for certain components used in its products; price
reductions for the Company's products; the timing of orders from and shipments
to customers; and general economic conditions. As previously noted, a small
number of customers have accounted for a majority of the Company's sales. Loss
of, or a material reduction in orders by, one or more of these customers would
materially adversely affect the Company's business, financial condition and
results of operations. The Company believes competition in the integrated access
portion of the telecommunications industry will increase significantly in the
future and could adversely affect the Company's business, results of operations
and financial condition. The Company expects that its gross margins could be
adversely affected in future periods by price adjustments as a result of
increased competition. The Company typically operates with a relatively small
backlog. As a result, quarterly sales and operating results generally depend on
the volume of, timing of and ability to fulfill orders received within the
quarter, which are difficult to forecast. A significant portion of the Company's
expense levels is relatively fixed and difficult to reduce in the short term. If
sales are below expectations in any given quarter, the adverse impact of the
shortfall on the Company's operating results may be magnified by the Company's
inability to adjust spending to compensate for the shortfall. The Company may
also increase spending in response to competition or to pursue new market
opportunities. Accordingly, there can be no assurance that the Company will be
able to sustain profitability. You should consult the risk factors which shall
be listed from time to time in the Company's reports on SEC forms 10-K, 10-Q and
8-K.
13
<PAGE> 16
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
JUNE 30,
------------------------
1996 1995
- ------------------------------------------------------------------------------------------------
(in thousands, except share and per share data)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 40,542 $ 3,243
Accounts receivable, net of allowance of $76 for each date 6,182 3,913
Inventories 4,952 2,720
Deferred tax assets 815 411
Other current assets 508 592
------------------------
Total current assets 52,999 10,879
Property and equipment, net 1,530 1,418
Deferred tax assets 613 248
Other assets 76 72
------------------------
$ 55,218 $ 12,617
========================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 2,199 $ 1,303
Accrued expenses 4,945 3,440
Income taxes payable 840 269
Current portion of long-term debt -- 172
------------------------
Total current liabilities 7,984 5,184
------------------------
Commitments (Note 10)
Stockholders' equity:
Preferred stock, $0.01 par value; 1,000,000 shares authorized;
no shares issued and outstanding -- --
Common Stock, $0.01 par value; 40,000,000 shares authorized;
13,122,833 and 9,519,512 shares issued and outstanding 131 95
Additional paid-in capital 42,432 3,894
Notes receivable from stockholders (1,445) (850)
Treasury stock; 3,352,710 shares of Common Stock at cost
for each date (7,320) (7,320)
Deferred compensation related to stock options (816) --
Retained earnings 14,252 11,614
------------------------
Total stockholders' equity 47,234 7,433
------------------------
$ 55,218 $ 12,617
========================
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
14
<PAGE> 17
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-----------------------------------
1996 1995 1994
- -------------------------------------------------------------------------------------
(in thousands, except per share data)
<S> <C> <C> <C>
Sales $41,608 $31,447 $36,533
Cost of sales 20,434 16,827 18,886
-----------------------------------
Gross profit 21,174 14,620 17,647
-----------------------------------
Operating expenses:
Research and development 7,004 6,484 5,975
Selling, general and administrative 10,938 7,789 8,803
-----------------------------------
Total operating expenses 17,942 14,273 14,778
-----------------------------------
Income from operations 3,232 347 2,869
Interest and other income, net 147 141 24
-----------------------------------
Income before income taxes 3,379 488 2,893
Provision for income taxes 663 40 630
-----------------------------------
Net income $ 2,716 $ 448 $ 2,263
===================================
Net income per share $ 0.24 $ 0.04 $ 0.23
===================================
Shares used to compute net income per share 11,367 10,676 9,900
===================================
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
15
<PAGE> 18
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
----------------------------------------
1996 1995 1994
- --------------------------------------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 2,716 $ 448 $ 2,263
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 846 977 1,121
Deferred income taxes (769) -- (659)
Deferred compensation related to stock options 357 -- --
Accrued interest on notes receivable
from stockholders (18) -- --
Changes in assets and liabilities:
Accounts receivable (2,269) (1,381) 970
Inventories (2,232) 409 832
Other assets 80 271 (311)
Accounts payable 896 (236) (575)
Accrued expenses 1,505 (2,645) 2,519
Income taxes payable 628 182 87
----------------------------------------
Net cash provided by (used in)
operating activities 1,740 (1,975) 6,247
----------------------------------------
Cash flows from investing activities for purchases of
property and equipment (958) (782) (861)
----------------------------------------
Cash flows from financing activities:
Proceeds from issuance of Common Stock, net 36,872 5 1
Repurchase of Common Stock (183) (8) (13)
Repayment of long-term debt (172) (158) (144)
----------------------------------------
Net cash provided by (used in) financing activities 36,517 (161) (156)
----------------------------------------
Net increase (decrease) in cash and cash equivalents 37,299 (2,918) 5,230
Cash and cash equivalents at beginning of year 3,243 6,161 931
----------------------------------------
Cash and cash equivalents at end of year $ 40,542 $ 3,243 $ 6,161
========================================
Supplemental disclosures:
Cash paid for interest $ 8 $ 29 $ 52
Cash paid (refund) for income taxes $ 805 $ (142) $ 1,141
Supplemental disclosure of noncash financing activities:
Common stock issued for notes receivable $ 577 $ -- $ 850
Tax benefit of stock options $ 57 $ -- $ --
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
16
<PAGE> 19
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
NOTES
COMMON STOCK ADDITIONAL RECEIVABLE
------------------- PAID-IN FROM TREASURY
SHARES AMOUNT CAPITAL STOCKHOLDERS STOCK
- ------------------------------------------------------------------------------------------------------------
(in thousands, except share data)
<S> <C> <C> <C> <C> <C>
Balance at June 30, 1993 7,844,140 $ 78 $ 3,066 $ -- $(7,314)
Issuance of Common Stock 1,700,000 17 833 (850) --
Issuance of Common Stock under
stock option plans 1,500 -- 1 -- --
Repurchase of 12,612 shares of
Common Stock for treasury (12,612) -- -- -- (6)
Repurchase and retirement of shares
of Common Stock (14,076) -- (6) -- --
Net income -- -- -- -- --
------------------------------------------------------------------
Balance at June 30, 1994 9,518,952 95 3,894 (850) (7,320)
Issuance of Common Stock under
stock option plans 10,162 -- 5 -- --
Repurchase and retirement of shares
of Common Stock (9,602) -- (5) -- --
Net income -- -- -- -- --
------------------------------------------------------------------
Balance at June 30, 1995 9,519,512 95 3,894 (850) (7,320)
Issuance of Common Stock in initial
public offering, net 2,555,000 25 36,742 -- --
Issuance of Common Stock under
stock option plans 1,258,711 13 669 (577) --
Repurchase and retirement of shares
of Common Stock (210,390) (2) (103) -- --
Deferred compensation related to
stock options -- -- 1,173 -- --
Amortization of deferred compensation -- -- -- -- --
Accrued interest on notes receivable
from stockholders -- -- -- (18) --
Tax benefit of stock options -- -- 57 -- --
Net income -- -- -- -- --
------------------------------------------------------------------
Balance at June 30, 1996 13,122,833 $ 131 $ 42,432 $ (1,445) $(7,320)
==================================================================
<CAPTION>
DEFERRED
COMPENSATION
RELATED
TO STOCK RETAINED
OPTIONS EARNINGS TOTAL
- --------------------------------------------------------------------------------------
(in thousands, except share data)
<S> <C> <C> <C>
Balance at June 30, 1993 $ -- $ 8,907 $ 4,737
Issuance of Common Stock -- -- --
Issuance of Common Stock under
stock option plans -- -- 1
Repurchase of 12,612 shares of
Common Stock for treasury -- -- (6)
Repurchase and retirement of shares
of Common Stock -- (1) (7)
Net income -- 2,263 2,263
-------------------------------------
Balance at June 30, 1994 -- 11,169 6,988
Issuance of Common Stock under
stock option plans -- -- 5
Repurchase and retirement of shares
of Common Stock -- (3) (8)
Net income -- 448 448
-------------------------------------
Balance at June 30, 1995 -- 11,614 7,433
Issuance of Common Stock in initial
public offering, net -- -- 36,767
Issuance of Common Stock under
stock option plans -- -- 105
Repurchase and retirement of shares
of Common Stock -- (78) (183)
Deferred compensation related to
stock options (1,173) -- --
Amortization of deferred compensation 357 -- 357
Accrued interest on notes receivable
from stockholders -- -- (18)
Tax benefit of stock options -- -- 57
Net income -- 2,716 2,716
-------------------------------------
Balance at June 30, 1996 $ (816) $ 14,252 $ 47,234
=====================================
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
17
<PAGE> 20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 THE COMPANY AND A SUMMARY OF ITS SIGNIFICANT ACCOUNTING POLICIES
The Company Verilink Corporation (the "Company"), a Delaware
Corporation, was incorporated in 1982 to manufacture and market
equipment for use by telecommunication network service providers and
their corporate customers.
Certain equity transactions In April 1996, the Company's Board of
Directors approved a two-for-one stock split of the Company's Common
Stock. All applicable share and per share amounts of Common Stock have
been retroactively adjusted to reflect the stock split.
Management estimates and assumptions 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.
Basis of presentation The consolidated financial statements include the
accounts of the Company and its wholly owned subsidiary in the United
Kingdom. All significant intercompany accounts and transactions have
been eliminated. The Company's fiscal year ends on the Sunday nearest
June 30. For purposes of financial statement presentation, each fiscal
year is considered to have ended on June 30. Fiscal 1996 and 1995
comprised 52 weeks and fiscal 1994 comprised 53 weeks.
Foreign currency The functional currency of the Company's foreign
subsidiary is the local currency. The balance sheet accounts are
translated into United States dollars at the exchange rate prevailing
at the balance sheet date. Revenues, costs and expenses are translated
into United States dollars at average rates for the period. Gains and
losses resulting from translation are accumulated as a component of
stockholders' equity and to date have not been material. Net gains and
losses resulting from foreign exchange transactions are included in the
consolidated statements of operations and were not significant during
any of the periods presented.
Cash and cash equivalents The Company considers all highly liquid debt
instruments with a maturity of three months or less when purchased to
be cash equivalents.
Inventories Inventories are stated at the lower of cost, determined
using the first-in, first-out method, or market.
Property and equipment Property and equipment are stated at cost.
Depreciation is computed using the straight-line method over the
estimated useful lives of the assets, generally two to five years.
Leasehold improvements are amortized using the straight-line method
over the lesser of the estimated useful lives of the assets or the
remaining lease term.
18
<PAGE> 21
Revenue recognition Revenues from the sale of products are recognized
upon shipment to customers. The following table summarizes the
percentage of total sales for customers accounting for more than 10% of
the Company's sales:
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
--------------------------------
1996 1995 1994
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
MCI Communications Corporation 29% 14% 20%
CompuServe Corporation 18% 14% --
AT&T Paradyne Corporation -- -- 11%
</TABLE>
Concentrations of credit risk Financial instruments that potentially subject
the Company to significant concentrations of credit risk consist primarily of
cash and cash equivalents, and accounts receivable. The Company places its cash
and cash equivalents primarily in market rate accounts, treasury bills and
commercial paper. The Company's trade accounts receivable are derived from sales
to customers primarily in the United States. The Company performs credit
evaluations of its customers' financial condition and, generally, requires no
collateral from its customers. The Company maintains reserves for potential
credit losses and historically such losses have been immaterial.
Research and development costs Research and development costs are expensed as
incurred.
Software development costs Software development costs are included in research
and development and are expensed as incurred. Statement of Financial Accounting
Standards No. 86 requires the capitalization of certain software development
costs incurred subsequent to the date technological feasibility is established,
which the Company defines as the completion of a working model, and prior to the
date the product is generally available for sale. The capitalized cost is then
amortized on a straight-line basis over the estimated product life, or on the
ratio of current sales to total projected product sales, whichever is greater.
To date, the period between achieving technological feasibility and the general
availability of such software has been short and software development costs
qualifying for capitalization have been insignificant. Accordingly, the Company
has not capitalized any software development costs.
Warranty The estimated costs of fulfilling product warranties are accrued at
the time the related sale is recorded.
Income taxes A deferred income tax liability or asset, net of valuation
allowance, is established for the expected future tax consequences resulting
from the differences between the financial reporting and income tax bases of the
Company's assets and liabilities and from tax credit carryforwards.
19
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (No. 333-05651) of Verilink Corporation of our report
dated July 19, 1996 appearing in the 1996 Annual Report to Stockholders which is
incorporated in this Annual Report on Form 10-K. We also consent to the
incorporation by reference of our report on the Financial Statement Schedule,
which appears in this Form 10-K.
PRICE WATERHOUSE LLP
San Jose, California
September 23, 1996
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<CURRENCY> 1
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1996
<PERIOD-START> JUL-01-1995
<PERIOD-END> JUN-30-1996
<EXCHANGE-RATE> 1
<CASH> 40,542
<SECURITIES> 0
<RECEIVABLES> 6,258
<ALLOWANCES> 76
<INVENTORY> 4,952
<CURRENT-ASSETS> 1,323
<PP&E> 8,225
<DEPRECIATION> 6,695
<TOTAL-ASSETS> 55,218
<CURRENT-LIABILITIES> 7,984
<BONDS> 0
0
0
<COMMON> 131
<OTHER-SE> 47,103
<TOTAL-LIABILITY-AND-EQUITY> 47,234
<SALES> 41,608
<TOTAL-REVENUES> 41,608
<CGS> 20,434
<TOTAL-COSTS> 20,434
<OTHER-EXPENSES> 17,942
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 147
<INCOME-PRETAX> 3,397
<INCOME-TAX> 663
<INCOME-CONTINUING> 2,716
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,716
<EPS-PRIMARY> .24
<EPS-DILUTED> .24
</TABLE>
