SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO
SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended December 31, 1999
OR
( ) TRANSITION REPORT PURSUANT TO
SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For The Transition Period From _____________
To _____________
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Commission File Number 0-25309
VMIC, INC
(Exact name of registrant as specified in its charter)
----------------------------
DELAWARE 63-0917261
(State or other jurisdiction of (I.R.S.Employer
incorporation or organization) Identification no.)
12090 S. Memorial Parkway Huntsville Alabama 35803-3308
(256) 880-0444
(Address, including zip code and telephone number of principal offices)
----------------------------
NO CHANGE
(Former name, address and fiscal year if changed since last report)
----------------------------
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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
COMMON STOCK, $.10 PAR VALUE
4,594,912 shares outstanding on December 31, 1999
<PAGE>
FORM 10-Q
VMIC, Inc.
QUARTERLY REPORT FOR THE PERIOD ENDED DECEMBER 31, 1999
INDEX
Page
-----
Part I. FINANCIAL INFORMATION
Item 1 Financial Statements
Balance Sheets as of December 31, 1999 (Unaudited)
and September 30, 1999...............................................3
Statements of Income for the Three Months Ended
December 31, 1999 and December 31, 1998 (Unaudited)..................4
Statements of Cash Flows for the Three Months Ended
December 31, 1999 and December 31, 1998 (Unaudited).................5
Notes to Condensed Financial Statements (Unaudited)..................6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations ...............................................8
Item 3. Quantitative and Qualitative Disclosures About Market Risk..........12
Part II. OTHER INFORMATION
Signatures..........................................................18
1
<PAGE>
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
VMIC, Inc.
Condensed Balance Sheets
<TABLE>
<CAPTION>
December 31, September 30,
1999 1999
(Unaudited) (Audited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 202,816 585,883
Accounts receivable (includes allowance for doubtful accounts of
$250,381 at December 31, 1999 and September 30, 1999)
5,114,256 5,080,529
Inventories 5,133,876 4,658,243
Prepaid expenses 167,613 110,483
Income tax receivable 5,238 106,553
Deferred income taxes 0 0
-------------------- ------------------
Total current assets 10,623,799 10,538,691
Property, plant, and equipment, net 8,090,413 8,165,822
Purchased product and software costs, net 684,397 728,630
Software development costs 1,089,330 836,363
-------------------- ------------------
$ 20,487,439 20,269,506
==================== ==================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current
liabilities:
Accounts payable $ 1,865,108 1,977,284
Bank overdraft 0 0
Current portion of notes, mortgages, and capital leases 5,753,110 5,735,110
Accrued liabilities 1,962,010 2,201,069
-------------------- ------------------
Total current liabilities 9,580,228 9,931,463
Notes, mortgages, and capital leases, less current portion above 6,051,545 6,447,808
Deferred income taxes 0 0
-------------------- ------------------
Total liabilities 15,631,773 16,379,271
-------------------- ------------------
Stockholders' equity:
Common stock, par value $.10 (10,000,000 shares authorized; 4,594,912 and
4,580,016 shares issued and outstanding at December 31, 1999
and September 30, 1999, respectively) 459,789 458,002
Additional paid-in capital 6,927,815 6,810,314
Retained earnings (2,531,438) (3,378,081)
-------------------- ------------------
Total stockholders' equity 4,856,166 3,890,235
-------------------- ------------------
$ 20,487,939 20,269,506
==================== ==================
</TABLE>
See notes to condensed financial statements.
2
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<TABLE>
<CAPTION>
VMIC, Inc.
Condensed Statements of Income(Unaudited) Three months ended
December 31, December 31,
1999 1998
<S> <C> <C>
Sales:
Hardware sales $ 8,152,625 $ 7,504,586
Software sales 200,554 200,511
------------------- ------------------
------------------- ------------------
Total sales 8,353,179 7,705,097
------------------- ------------------
Cost and expenses:
Cost of products sold 3,017,575 2,851,280
Research and development expense 1,285,591 1,577,637
Selling, general, and administrative expense 2,971,066 3,540,140
------------------- ------------------
7,274,232 7,969,057
------------------- ------------------
Operating (loss) income 1,078,947 (263,960)
Other income (expense) (232,307) (138,302)
------------------- ------------------
(Loss) income before income taxes 846,640 (402,262)
Benefit (provision) for income taxes 0 111,110
------------------- ------------------
Net (loss) income $ 846,640 $ (291,152)
=================== ==================
Net (loss) income per common and common equivalent share:
Basic $0.184 $(0.065)
=================== ==================
Diluted $0.182 $(0.065)
=================== ==================
Weighted average common and common equivalent shares outstanding:
Basic 4,594,912 4,447,586
=================== ==================
Diluted 4,638,821 4,447,586
=================== ==================
See notes to condensed financial statements.
</TABLE>
3
<PAGE>
<TABLE>
<CAPTION>
VMIC, Inc.
Condensed Statements of Cash Flows
Three months ended
December 31, December 31,
1999 1998
<S> <C> <C>
Cash flows from operating activities:
Net (loss) income $ 846,640 $ (291,152)
Adjustments to reconcile net (loss) income to net cash
(used in) provided by operating activities:
Depreciation and amortization 622,042 733,112
Provision for losses on accounts receivable 0 12,000
Stock issued in lieu of cash compensation 29,813 20,700
Gain on disposal of property and equipment 0 (24,854)
Change in operating assets and liabilities:
Accounts receivable 67,589 (39,185)
Inventories (475,634) (481,868)
Prepaid expenses (57,130) (72,807)
Income tax receivable 101,315 (111,110)
Accounts payable (162,459) (342,145)
Accrued liabilities (594,793) (513,306)
---------------- ---------------
Total adjustments (469,257) (819,463)
---------------- ---------------
Net cash (used in) provided by operating activities 377,383 (1,110,615)
---------------- ---------------
Cash flows from investing activities:
Capital expenditures (241,927) (299,959)
Software development costs and purchased product and software costs (208,735) (846,161)
Proceeds from dispositions of property, plant,
and equipment 0 24,854
---------------- ---------------
Net cash used in investing activities (450,662) (1,121,266)
---------------- ---------------
Cash flows from financing activities:
Proceeds from issuance of long-term debt 0 1,320,854
Principal payments on long-term debt (396,263) 0
Increase in bank overdraft 0 204,139
Proceeds from issuance of common stock 89,475 178,916
---------------- ---------------
Net cash provided by financing activities (306,788) 1,703,909
---------------- ---------------
Net (decrease) increase in cash and
cash equivalents (380,067) (527,972)
Cash and cash equivalents, beginning of year 582,883 527,972
---------------- ---------------
Cash and cash equivalents, end of period $ 202,816 $ 0
================ ===============
Supplemental disclosure of cash flow information:
Cash paid during the period for interest $ 246,895 $ 170,000
================ ===============
Cash paid during the period for income taxes $ 0 $ 0
================ ===============
</TABLE>
See notes to condensed financial statements.
4
<PAGE>
VMIC, Inc.
Notes to Condensed Financial Statements
1. Basis of Presentation
The accompanying unaudited condensed financial statements of VMIC, Inc.
(the Company) have been prepared by management in accordance with
generally accepted accounting principles for interim financial
information and in conjunction with the rules and regulations of the
Securities and Exchange Commission. In the opinion of management, all
adjustments necessary for a fair presentation of the interim condensed
financial statements have been included, and all adjustments are of a
normal and recurring nature. The condensed financial statements as of and
for the interim period ended December 31, 1999 should be read in
conjunction with the Company's financial statements as of and for the
year ended September 30, 1999 included in the Company's Form-10K filed
January 13, 2000. Operating results for the three months ended December
31, 1999 are not necessarily indicative of the results that may be
expected for the year ended September 30, 2000. The September 30, 1999
balance sheet data presented herein was derived from audited financial
statements but does not include all disclosures required by generally
accepted accounting principles.
2. Stock Options
No options to purchase shares of common stock were granted on varying
dates throughout the quarter to employees under the Employee Stock Option
Plan, at the market price as of the effective date. Also, options to
purchase 4,429 shares of common stock were exercised during the quarter.
3. Comprehensive Income
The Company does not have any difference between net income as reported
and comprehensive income.
5
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VMIC, Inc.
Notes to Condensed Financial Statements (Continued)
4. Earnings Per Share
<TABLE>
<CAPTION>
Earnings Per Share:
A summary of the calculation of basic and diluted earnings per share is as
follows:
Income Shares Per-Share
(Numerator) (Denominator) Amount
<S> <C> <C> <C>
--------------------- ------------------ ----------------
Three months ended
December 31, 1999
Basic EPS:
Loss available to common stockholders $ 846,640 4,594,912 $ 0.184
Effect of dilutive securities:
Stock options 43,909
Diluted EPS $ 846,640 4,638,821 $ 0.182
--------------------- ------------------ ----------------
Three months ended
December 31, 1998
Basic EPS:
Income available to common stockholders $ (291,152) 4,447,586 $ (0.065)
Effect of dilutive securities:
Stock options
Diluted EPS $ (291,152) 4,447,586 $ (0.065)
</TABLE>
6
<PAGE>
FORM 10-Q
VMIC, Inc.
Item 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operations
EXCEPT FOR HISTORICAL INFORMATION CONTAINED HEREIN, THIS QUARTERLY REPORT
CONTAINS FORWARD-LOOKING STATEMENTS AS DEFINED IN SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934. SUCH FORWARD-LOOKING STATEMENTS ARE SUBJECT TO VARIOUS
RISKS AND UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY
FROM THOSE PROJECTED IN THE FORWARD-LOOKING STATEMENTS. THESE RISKS AND
UNCERTAINTIES ARE DISCUSSED IN MORE DETAIL IN THE FOLLOWING MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SECTION
AND THE QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK SECTION OF
THIS QUARTERLY REPORT. THESE FORWARD-LOOKING STATEMENTS CAN BE GENERALLY
IDENTIFIED AS SUCH BECAUSE THE CONTENT OF THE STATEMENTS WILL USUALLY CONTAIN
SUCH WORDS AS THE COMPANY OR MANAGEMENT "BELIEVES," "ANTICIPATES," "EXPECTS,"
"PLANS," OR WORDS OF SIMILAR IMPORT. SIMILARLY, STATEMENTS THAT DESCRIBE THE
COMPANY'S FUTURE PLANS, OBJECTIVES, GOALS OR STRATEGIES ARE FORWARD-LOOKING
STATEMENTS.
OVERVIEW
VMIC is a supplier of hardware and software products to the embedded
computer industry. Embedded computers are different from desktop and other
computers in that embedded computers are designed to perform repetitive tasks,
whereas other computers are more general purpose. Embedded computers are used in
markets such as telecommunications, medical, industrial automation, test and
measurement, and defense. VMIC supplies products to all of these markets.
However, the Company's focus for the future is primarily telecommunications and
Fibre Channel storage area networks markets. VMIC has recently entered the
storage area network, or SAN market, and the computer networking industry with
Fibre Channel products that are also used throughout these markets. SAN and
computer networking have wide applications throughout the computer industry.
VMIC specializes in open architecture, nonproprietary, standard
computer buses such as VMEbus, PCI, CompactPCI, PMC, and PCoMIP. These open
architecture buses are supported by companies such as Motorola, Intel,
Hewlett-Packard, Microsoft, Sun, Silicon Graphics, Dell, and Compaq. The Company
manufactures its own products to enable it to meet its customers' demands for
high quality, responsiveness, reliability, and low cost, while reducing
time-to-market and life cycle costs. The Company's manufacturing facility
supports low-volume, high-mix production, and high-volume production using
state-of-the-art equipment. The Company markets its products in more than 60
countries through a direct sales staff and a network of manufacturers'
representatives and international distributors.
The Company's objective is to become a leading supplier of standard bus
board products and software to the embedded computer and storage area network
markets. In addition, the Company believes that its expertise in the embedded
computer market will provide the stepping stone for success in the high-growth
Fibre Channel storage area network market with host adapter boards.
VMIC continues to invest heavily in new and enhanced technology,
including software, and has focused its attention on highly vertical markets to
support faster growth, more consistent profitability, and enhanced shareholder
value.
7
<PAGE>
MANAGEMENT'S DISCUSSIONS AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF
OPERATION
The Company experienced substantial improvement in profitability for
the first quarter ended December 31, 1999, and revenue for the first quarter
increased 8.4 percent to $8.35 million, compared to the same period in 1998. Net
income for the first quarter increased 390.8 percent to $846,640 and diluted
earnings per share increased 357 percent to $0.18 per share, when compared to
first quarter 1998 results. Profits increased due to reduced expenses, higher
operating margins, and increased sales. Orders increased 43.8 percent to $9.0
million for the three-month period ended December 31, 1999, as compared to the
same period ended December 31, 1998. Backlog increased 465.2 percent to $15.4
million for the three-month period ended December 31, 1999, as compared to the
same period ended December 31, 1998. Sales of PC embedded single-board computers
increased 87 percent to $1.8 million as compared to the same period in 1998.
The Company's development and delivery of new products has been focused
on PC embedded single-board computers, Fibre Channel host bus adapters,
Reflective Memory, board-level software, and improvements in the PC-based
control software package to support the Company's sales and marketing of I/O
systems and industrial automation hardware.
The Company recently released nine new products for the Fibre Channel
storage area network market and began shipments during the first quarter. The
SAN market is focused on the networking of computers and storage devices, such
as disks and tapes. The Company received its first volume order of more than 460
units during the first quarter and expects a rapid increase in orders and
shipments of Fibre Channel products.
VMIC's focus on more vertical markets and products is showing signs of
success as customers such as Litton Data Systems, Divicom, Battelle/CyTek,
Lucent, and Westinghouse have recently selected the Company's single-board
computers as a compute engine for applications in defense, telecommunications,
industrial automation, medical, and digital video broadcasting markets.
The Company expects volume shipments to begin during the May/June 2000
time frame for these new opportunities.
The Company also began negotiations with Lucent, during the first
quarter, for the supply of Reflective Memory boards in telecom applications. The
Company expects a contract award during the second quarter.
The Company began extensive promotional efforts associated with its new
Fibre Channel product line during the first quarter. The company is encouraged
by the initial response to its new product line. The market for SAN products is
projected by IDT to grow from $2 billion in 2000 to more than $23 billion in
2003. These new products, which have focused on the SAN market, positioned the
Company to market its products to computer server companies such as Compaq,
Dell, Sun, SGI, and others. The Company is specializing in the host bus adapter
(HBA) product area of the Fibre Channel market. HBA converts the computer
electronic signals to a Fibre protocol for high-speed, gigabit transmission to
other computers and/or storage devices.
In addition to the nine released products focused on the SAN industry,
the Company is developing additional software and hardware products for this
market.
The Company has recently developed a new Web site focused on the SAN
product line at www.vmicnet.com.
The Company has currently limited production of its Fibre Channel HBA
to beta test sites and shipped small quantities for customer evaluations, but
anticipates volume shipments to begin during the second and third quarters. The
Company recently won design-ins with several customers who we expect will begin
placing volume orders soon.
8
<PAGE>
Marketing activities for the Fibre Channel product line includes an
extensive list of trade shows focused on the SAN market, as well as Web and
direct mail promotional activities. The Company recently joined the Fibre
Channel Industry Association (FCIA) and the Storage Area Networking Industry
Association (SNIA).
SALES
Sales increased 8.41 percent to $8.4 million for the three-month period
ended December 31, 1999 from $7.7 million for the three-month period ended
December 31, 1998. Single-board computer sales increased 87.9 percent from
$964,000 for the three-month period ended December 31, 1998 to $1.8 million for
the same period in 1999. Input/output sales decreased 8.9 percent from $3.97
million for the three-month period ended December 31, 1998 to $3.6 million for
the three-month period ended December 31, 1999. Reflective Memory sales for the
first quarter 2000 were flat in comparison to the first quarter of 1999 at
approximately $2.15 million. Other sales of product lines for the first quarter
of 2000 were relatively flat in comparison to the first quarter of 1999.
Software sales for the three-month period ended December 1999 were $200,511, as
compared to $200,554 for the same period in 1998. International sales as a
percent of total sales decreased from 26.8 percent for the three-month period
ended December 1998, as compared to 18.3 percent for the period ended December
31, 1999.
GROSS MARGINS
The Company's average gross margin increased from 63 percent in the
three-month period ended December 31, 1998 to 64.2 percent in the three-month
period ended December 31, 1999. This increase is attributed to increased prices
and decreased software amortization costs associated with the Company's
capitalized software costs. The sales mix of high-margin products was higher in
the quarter ended December 31, 1999 as compared to December 31, 1998. Gross
margins for software increased from 34.5 percent for the three-month period
ended December 31, 1998 to 92.9 percent for the three-month period ended
December 31, 1999 primarily due to decreased software amortization as a result
of the write-off for the year ended September 30, 1999.
COST OF SALES
Cost of sales decreased 31.6 percent to 35.84 percent for the
three-month period ended December 31, 1999 as compared to 37.01 percent for the
period ended December 31, 1998. Cost of sales decreased because of a higher mix
of higher gross margin products, increased prices, and lower software
amortization costs.
GROSS PROFIT
Gross profit for the three-month period ended December 31, 1999
increased 9.5 percent to $5.36 million as compared to $4.85 million for the
period ended December 31, 1998. Gross profits increased because of reduced
software amortization, increased prices for selected products, and a higher
sales mix of higher margin products.
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES
For the three-month period ended December 31, 1999, selling, general,
and administrative (SG&A) expenses decreased 14.3 percent from $3.5 million to
$3.0 million for the period ended December 31, 1998. The decrease is attributed
to substantially reduced costs in sales and marketing.
RESEARCH AND DEVELOPMENT EXPENSES
For the three-month period ended December 31, 1999, research and
development expenses decreased 12.8 percent from $1.48 million (20.48 percent of
sales) for the three-month period ended December 31, 1998 to $1.29 million
(15.39 percent of sales) for the period ended December 31, 1999. Capitalized
software costs for the three-month period ended December 31, 1999 decreased to
$252.900, as compared to $653,000 for the three-month period ended December 31,
1998.
9
<PAGE>
INTEREST EXPENSES
Interest expenses increased 44.9 percent from $170,400 for the
three-month period ended December 31, 1998 to $246,900 for the three-month
period ended December 31, 1999. This increase is attributed to capital equipment
and investments for machinery, computers, and interest on the Company's line of
credit.
INCOME TAXES
Income taxes as a percentage of income were 27.6 percent in the
three-month period ended December 31, 1998, as compared to zero in the
three-month period ended December 31, 1999. No taxes were levied for the
three-month period ended December 31, 1999 because of the loss carry forward
from the fiscal year ended September 30, 1999.
EARNINGS PER SHARE
For the three-month period ended December 31, 1998, net loss per
weighted average common and common equivalent share was $0.065 per basic share
compared to net income of $0.184 per basic share for the three-month period
ended December 31, 1999. For the three-month period ended December 31, 1998, net
loss per weighted average common and common equivalent share, assuming dilution,
was $0.065 per diluted share compared to net income of $0.182 per diluted share
for the three-month period ended December 31,1999.
CAPITALIZED SOFTWARE DEVELOPMENT COSTS
At December 31, 1999, VMIC had five categories of software products
under development as follows:
Software Product Capitalized Amount
- ---------------- ------------------
IOWorks(R) $151,951
Reflective Memory 20,295
CPU Related 14,813
Communications 29,426
I/O Products 12,262
------
Total $228,747
EFFECTS OF INFLATION
Substantially all contracts awarded to VMIC have been based on
proposals which reflect estimated cost increases due to inflation. Historically,
inflation has not had a significant impact on VMIC's revenues or costs.
LIQUIDITY AND CAPITAL RESOURCES
Historically, VMIC's cash flow from operations and available credit
facilities have provided adequate liquidity and working capital to fully fund
VMIC's operational needs. As of December 31, 1999, VMIC's variable line of
credit for working capital was $8.0 million, of which $4.1 million was used.
VMIC's $2.0 million equipment line of credit availability was $1.0 million. The
line of credit expires March 1, 2000; however, VMIC expects to renew the line
for a one-year term. The Company also expects to execute an additional $2
million equipment line of credit.
The lines of credit require the Company to maintain certain loan
covenants and, as of December 31, 1999, the Company was either in compliance
with such covenants or had obtained waivers.
Working capital was $1.0 million at December 31, 1999 and $607,228 at
September 30, 1999. Included in working capital are cash and cash equivalents of
$202,800 at December 31, 1999 compared to $585,883 at September 30, 1999. Total
working capital increased as a result of the profit experienced for
10
<PAGE>
the quarter ended December 31, 1999 and changes in operating assets and
liabilities. Current liabilities were $9.6 million at December 31, 1999 compared
to $9.9 million at September 30, 1999. Operating activities for the three-month
period ended December 31, 1999 provided $0.3 million of cash. Cash used for
investing activities was $0.4 million for the three months ended December 31,
1999, of which $0.4 million was used for capital expenditures. Cash provided by
financing activities was $0.0 million and $1.7 million for the three months
ended December 31, 1999 and December 31, 1998, respectively.
Inventory turnover for the three months ended December 31, 1999 was
approximately 153 days compared to approximately 171 days for the same period in
1998. This decrease was attributable to increased sales and improved inventory
management. Accounts receivable from customers were outstanding on average
approximately 53 days for the three months ended December 31, 1999 compared to
approximately 51 days for the same period in 1998.
VMIC believes that its financial resources, including its internally
generated funds and debt capacity, will be sufficient to finance its current
operations and capital expenditures for the next 12 months. However, management
is examining several options to raise additional working capital.
YEAR 2000 READINESS DISCLOSURE
OVERVIEW.
Historically, certain computerized systems have had two digits rather
than four digits to define the applicable year, which could result in
recognizing a date using "00" as the year 1900 rather than the year 2000. This
could cause significant software failures or miscalculations and is generally
referred to as the "Year 2000" problem.
The company recognizes that the impact of the Year 2000 problem extends
beyond its computer hardware and software and may affect utility and
telecommunication services, as well as the system of customers and suppliers.
The Year 2000 problem was addressed by a team within the Company and progress
was reported periodically to management. The Company believes that a majority of
its products and systems are Year 2000 compliant and VMIC anticipates
maintaining compliance in future revisions of any product or systems that are
currently compliant. The Company has surveyed all of its internal systems and
software for Year 2000 compliance and has received Year 2000 compliance
certification from the suppliers of the systems and software that are compliant.
Non-compliant systems and software have been upgraded or replaced to achieve
compliance. The Company believes that it is Year 2000 compliant and has not
suffered any Year 2000 related failure as of February 10, 2000.
COST FOR YEAR 2000 COMPLIANCE.
The Company spent approximately $75,000 on becoming Year 2000 compliant;
this was not material to the Company's operations, liquidity or capital
resources.
11
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's business and financial performance are subject to risks
and uncertainties, including those discussed below.
The company may not be able to compete effectively in its current or future
markets.
The standard bus embedded computer industry is highly competitive and
fragmented, and the Company faces significant competition in each of its product
markets. The Company's competitors differ depending on product type, geographic
market, and application type. Several of VMIC's competitors are well established
and have greater assets and financial resources than the Company, and have
larger marketing and research and development budgets. Several of the Company's
competitors also have larger service organizations.
Competition in the Company's business areas is influenced by technical
capacity, customer support, product longevity, supplier stability, breadth of
product offerings, reliability, performance, and price. Accordingly, even small
competitors who develop technologically similar or advanced products could
successfully compete with the Company. Other competitors have established
relationships with customers or potential customers that afford them a
competitive advantage. There can be no assurance that the Company will be able
to compete effectively in its current or future markets or whether the Company's
technology and designs will be viable in the marketplace in the future.
The Company recently entered into new product markets and may be unable to
develop the technologies or market presence necessary to succeed in these
markets.
VMIC's recent entry into vertically integrated markets such as
Industrial Automation and storage area networks has required the Company to
develop new hardware and software products. However, these new products, while
offering potential new revenue sources, may not achieve market acceptance, and
the failure to succeed in these markets could materially impact the financial
condition of VMIC.
The Company has diverted research and development resources from core products
to new technologies.
The Company has recently undertaken substantial research and
development efforts outside of its core business with the intent of increasing
its revenue base and growth potential. This is reflected in the Company's
strategy of offering PC-based control software or IOWorks, embedded PC board
products, and communication products, such as Fibre Channel and Reflective
Memory to the Storage Area Network, Industrial Automation and Telecommunications
markets and other more vertically integrated markets. To implement this
strategy, the Company reduced its research and development investments in its
core business while significantly increasing its investment in the new products
designed to address these more vertical markets. If the Company is unsuccessful
in these new markets, it will be dependent on its core business to maintain
historical operating results. VMIC may not be able to maintain its historical
operating results, however, because it has substantially reduced its research
and development investments in its core business.
Sales of the Company's new products may not meet the growth objectives of the
Company.
Some of the Company's new hardware products will be sold at lower
profit margins, and the Company requires significant market acceptance of these
products to meet the growth objectives of the Company. While there has been
significant customer interest in these new products, and Reflective Memory,
Fibre Channel and PC-based products generated a significant percentage of the
Company's revenues in 1999, there can be no assurance that these new products
will be successful to the extent necessary to meet VMIC's growth objectives. If
these new products are not successful, the Company's operating results and
financial condition could be materially adversely affected.
12
<PAGE>
The Company has increased its debt level and working capital requirements
Traditionally, the Company has utilized long-term liabilities as a
major financing source. Long-term debt of the Company rose from $200 thousand in
1986 to approximately $6.4 million as of December 31, 1999. The Company's
utilization of long-term debt is somewhat higher than the average company in
this industry. A primary reason for the increase in long-term debt was the need
for the Company to manage its growth. The Company believes its current revenue
level will be sufficient to service its long-term debt. However, if the revenues
and profits of the Company substantially decrease, it will be more difficult for
the Company to service its long-term debt, meet its current obligations, and
continue with its current business plan. As of December 31, 1999 the Company had
sufficient current assets to liquidate all of its current liabilities.
The Company's products may become obsolete and the Company may be unable to
respond to future market needs.
Most of the Company's products are developed to meet certain industry
standards. These standards continue to develop and are subject to change.
Elimination or obsolescence of all or some of these standards could affect the
design, manufacture, and sale of the Company's products and require costly
redesign to meet new or emerging standards.
In general, technology in the computer industry, and the computer bus
board industry specifically, is subject to rapid technological change. The
introduction of new technology and products by others could adversely affect the
Company's business. There is no assurance that future advances in technology may
not make the Company's existing product line obsolete, resulting in increased
competition, and requiring the Company to undertake costly redesign efforts.
There can be no assurance that the Company will be able to incorporate new
technology into its product lines or redesign its products to compete
effectively.
Moreover, because new products and technologies require commitments
well in advance of sales, decisions with respect to those commitments must
accurately anticipate both future demand and the technology that will be
available to meet that demand. There can be no assurance that the Company will
be able to successfully anticipate or adapt to future technological changes, and
failure to do so may materially adversely affect the Company's business,
financial condition, or results of operations.
The Company may experience reduced cash flows as a result of selling products
with smaller margins, fluctuations in operating results and increases in
expenses.
The Company is dependent upon the success of its recently developed
IOWorks software for the sale of I/O system products, embedded PC board products
and communication products such as Reflective Memory and Fibre Channel to
substantially increase revenue growth. Embedded PC board products and
communication products typically yield smaller margins than the Company's
traditional product mix and the Company's profits could therefore erode in the
future.
In addition, the Company has experienced reduced net cash flows,
attributable to substantial software development, inventory expansion, building
expansion, purchased technologies associated with PC single-board computers, the
Company's expanded use of internal products for software development, and
fluctuations in the Company's operating results. Moreover, because of the
Company's high level of current fixed expenses and working capital requirements,
and because the Company believes it should continue its current business
strategy of expending substantial resources on research and development, VMIC
may experience a negative cash flow position in the future.
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The Company may not be able to successfully protect its intellectual
property and confidential information.
The Company's success is, to a significant degree, attributable to the
unique features of its software, proprietary technology and other confidential
information. Unfortunately, software and information technology industries have
experienced widespread unauthorized reproduction of software products and other
proprietary technology. While the Company has some patent protection for its
hardware products, the Company's software is not patented, and existing
copyright law offers only limited practical protection. For most of its
intellectual property protection, VMIC relies on a combination of trade secret
laws, copyright protection, common law intellectual property rights, license
agreements, nondisclosure, and other contractual provisions. The Company does
not, however, sell its software source code, or provide its customers access to
the source code associated with its software products.
There is no assurance that the Company will be able to protect its
trade secrets or that others will not independently develop substantially
equivalent proprietary information and techniques or otherwise gain access to
the Company's trade secrets. There is no assurance that foreign intellectual
property laws will protect the Company's intellectual property rights. In
addition, the computer industry is characterized by frequent litigation
regarding patent and other intellectual property rights, and litigation has
been, and may in the future be necessary to enforce the Company's trade secrets
or to defend against claims of patent infringement. While VMIC believes that its
proprietary rights do not infringe upon the proprietary rights of others, third
parties may assert infringement claims against the Company in the future and
such assertion could cause the Company to enter into a license agreement or
royalty arrangement with the party asserting the claim. The Company may also be
required to indemnify its customers for claims made against them. Responding to
and defending any such claims, developing non-infringing intellectual property
or acquiring licenses could have a material adverse affect on the Company's
business, financial condition or results of operations.
The Company may not be able to adequately finance its continued growth.
The Company has been growing since 1986, during which time the Company
has experienced increased debt, sales growth, high research and development
expenditures, and an increased asset base. There are certain risks inherent in
any growing company arising from such factors as increased working capital and
capital expenditure requirements. Moreover, the Company's business strategy
calls for substantial continued investment in new products. The Company also
anticipates expanding its inventory and increasing investments in equipment and
other fixed assets. There is no assurance that the Company will be successful in
obtaining additional long-term debt or equity financing, or if obtained, there
can be no assurance that the debt or equity financing will be on terms favorable
to the Company or its shareholders. The failure of the Company to obtain
additional funds or the obtaining of such funds on unfavorable terms could
adversely affect the financial performance and prospects of the Company and any
equity investment on unfavorable terms could cause substantial dilution to the
shareholders.
The Company will be required to expense certain software development costs if
software sales are not sufficient to amortize the capitalized software
development costs over a five-year period.
The Company, in fiscal year 1996, began to capitalize development costs
associated with its IOWorks software and certain other products. The Company is
required to amortize its capitalized software costs against future sales of the
software products over a five-year period after the release of the products. The
Company accounts for these software development costs in accordance with
Statement of Financial Accounting Standards No. 86, Accounting for the Costs of
Computer Software to be Sold, Leased or Otherwise Marketed. The Company
capitalizes certain costs incurred in the production of computer software once
technological feasibility of the product to be marketed has been established.
Capitalization of these costs ceases when the product is considered available
for general release to customers.
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The establishment of technological feasibility and the ongoing assessment of
recoverability of capitalized software development costs require considerable
judgment by VMIC.
If software sales are not sufficient to amortize the capitalized costs
over the five-year period the Company is required to expense those capitalized
costs. In 1999, the Company recorded a $5.3 million write-down of certain
software development costs and purchased product and software costs.
The Company relies on suppliers for many of its electronic components, some of
which can only be obtained from a single source.
Most of the Company's products contain state-of-the-art digital electronic
components and integrated circuits. The Company is dependent upon third parties
for the continuing supply of most of these components and all of its integrated
circuits. Some of these components are obtained from a sole supplier, such as Q
Logic, Altus, Triquent, Intel, AMD, Tundra, Cypress; or a limited number of
suppliers, for which alternative sources would be difficult to locate. Recently,
the Company has experienced difficulties in purchasing components for its Fibre
Channel products from Q Logic. The Company has also experienced shortages of
integrated circuits and other key components from time to time, and this has
resulted in delays in product
deliveries. The Company has also had to terminate its marketing of certain
products, even newly developed products, when a component supplier terminated
its production of a critical component. Moreover, suppliers may discontinue or
upgrade some of the components incorporated into the Company's products, which
could require the Company to redesign a product to incorporate newer or
alternative technology. Although the Company believes it maintains good
relationships with its suppliers, and has arranged for an adequate supply of
components to meet its short-term requirements, any unavailability of components
could cause delayed shipments and lead to customer dissatisfaction. Any
sustained unavailability of components could materially adversely affect the
Company's operating results and financial condition.
The Company has limited manufacturing facilities and must rely on subcontractors
to complete some of the Company's products.
The Company relies on subcontractors for manufacturing some of the
Company's products. The contractors may experience delays because of quality
problems, backlog, component availability, financial difficulty, or other
situations which could have an adverse effect on the Company's operating results
and customer relationships. In this event, the Company may be required to find
alternative subcontractors, and there can be no assurance that the Company could
find suitable subcontractors.
The loss of one or more major customers or a number of smaller customers could
adversely affect the Company's revenues and profits.
Sales to two major customers accounted for approximately 6.4% of VMIC's
sales in 1998 and 12.7% of VMIC's sales during 1999. If either or both of these
customers discontinued purchasing products from the Company, the Company's
operating results and financial condition could be materially adversely
affected. In addition, in fiscal year 1999, approximately 31% of the Company's
sales were derived directly or indirectly from various agencies of the U. S.
Department of Defense. Although the percentage of the Company's sales derived
from governmental contracts has decreased from a high of 75% in 1986, the
Company expects that the government will continue to be a significant source of
sales. It is possible that changes in national policy or other factors could
result in reduced defense spending which could materially adversely affect the
operating results and financial condition of the Company.
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Lack of a Public Market and Certain Transfer Restrictions.
There presently exists no public market for the shares of the Company's
stock, nor is there any likelihood of one developing in the near future. A
holder of the Company's Common Stock may not be able to liquidate his or her
position when liquidity is needed and may be required to retain the securities
indefinitely.
Control by Existing Shareholders.
Carroll E. Williams and Mary W. Williams own 37% of the Company's
Common Stock. Together, all of the current officers and directors of the Company
(including Carroll E. Williams and Mary W. Williams) own a substantial majority
of its Common Stock. Consequently, these individuals, and particularly Carroll
E. Williams and Mary W. Williams, will control virtually all aspects of the
Company's business by virtue of their ability to nominate and elect the Board of
Directors and officers of the Company. As directors and officers of the Company,
they will, subject to their fiduciary duties, be entitled to develop and
implement the Company's course of business. Neither the Company's Articles of
Incorporation nor its Bylaws permit cumulative voting. Consequently, the
remaining shareholders will not be entitled to elect a representative to the
Company's Board of Directors.
The Company Does Not Anticipate Paying Dividends.
Since its incorporation, the Company has never paid dividends and does
not anticipate paying cash dividends in the foreseeable future. The Company
projects that it will retain future earnings, if any, to provide working capital
and implement the Company's business strategy. Also, pursuant to its loan
agreement, the Company's ability to pay dividends is substantially limited
because the loan agreement requires the Company to maintain certain financial
ratios that the Company believes would not be maintained if dividends were paid.
The Company may not be able to make acquisitions and the Company's acquisitions
may not be successful.
Part of the Company's strategy for growth includes acquisitions of
complementary technologies or businesses that would enhance the Company's
capabilities or increase the Company's customer base. The Company's ability to
expand successfully through acquisitions depends on many factors, including
business and management's ability to effectively integrate and operate acquired
companies. The Company may compete for acquisition opportunities with other
companies that have significantly greater financial and management resources.
There can be no assurance that the Company will be successful in acquiring or
integrating any such technologies or businesses.
The Company may be subject to product liability claims.
The Company's products and services may be subject to product liability
or electronics manufacturing errors or omissions liability claims. The Company
maintains product recall insurance with an aggregate limit of $1.0 million,
primary product liability and electronics errors or omissions liability
insurance with a general aggregate limit of $2.0 million, and $1.0 million per
occurrence, with a $2.0 million excess policy. While the Company has never been
the subject of any such claims, given the wide use of the Company's products and
the propensity of claimants to initially pursue all possible contributors in a
legal action, there can be no assurance that such coverage will be adequate to
protect the Company from liability. Further, the Company may be unable to obtain
insurance in the future at rates acceptable to the Company. In the event of a
successful lawsuit against the Company, insufficiency of insurance coverage
could have a material adverse effect upon the Company.
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The Company may not be able to retain and recruit key employees and skilled
personnel necessary to maintain or grow the business.
The Company's success will depend in large part on the continued services
of its key management, and technical personnel. The loss of the services of one
or more of the Company's key employees or the inability to hire additional key
personnel as needed 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 successful in attracting and retaining needed
personnel. While the Company is currently experiencing relatively low rates of
turnover for skilled employees, there can be no assurance that these rates of
turnover will not increase in the future. The inability of the Company to hire,
train, and retain a sufficient number of qualified employees could impair the
Company's ability to compete in its markets resulting in a material adverse
effect on the Company's business, financial condition and results of operations.
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FORM 10-Q
VMIC, Inc.
PART II - OTHER INFORMATION
SIGNATURES
MANAGEMENT REPRESENTATION
The accompanying Balance Sheets at December 31, 1999, and September
30, 1999 as well as the Statements of Income, Statements of Changes in
Stockholders' Equity and Statements of Cash Flows for the three months December
31, 1999, and 1999, have been prepared in accordance with instructions to Form
10-Q and do not include all of the information and footnotes required by
generally accepted accounting principles for complete financial statements. In
the opinion of management, all adjustments, consisting only of normal recurring
accruals, considered necessary for a fair presentation have been included.
January 11, 2000
- --------------- By: Gordon Hubbert
Date
Gordon Hubbert
Vice President and Chief
Financial Officer (Principal Financial
and Accounting Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
January 11, 2000 By: Carroll E. Williams
- ----------------
Date Carroll E. Williams
President and Chief
Executive Officer
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