<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
X Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
- --- Exchange Act of 1934. For the quarterly period ended MARCH 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 .
COMMISSION FILE NUMBER 1-10441
SILICON GRAPHICS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 94-2789662
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1600 AMPHITHEATRE PKWY., MOUNTAIN VIEW, CALIFORNIA 94043-1351
(Address of principal executive offices) (Zip Code)
(650) 960-1980
(Registrant's telephone number, including area code)
------------------
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
----- -----
As of April 30, 1999 there were 188,774,262 shares
of Common Stock outstanding.
-1-
<PAGE>
SILICON GRAPHICS, INC.
QUARTERLY REPORT ON FORM 10-Q
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE NO.
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited):
Condensed Consolidated Balance Sheets................................................................ 3
Condensed Consolidated Statements of Operations...................................................... 4
Condensed Consolidated Statements of Cash Flows...................................................... 5
Notes to Condensed Consolidated Financial Statements................................................. 6
Item 2. Management's Discussion and Analysis
of Results of Operations and Financial Condition..................................................... 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk .......................................... 19
PART II - OTHER INFORMATION
Item 1 Legal Proceedings.................................................................................... 20
Item 6. Exhibits and Reports on Form 8-K..................................................................... 20
Signatures .................................................................................................. 21
Index to Exhibits ........................................................................................... 22
</TABLE>
TRADEMARKS USED IN THIS FORM 10-Q: Silicon Graphics, OCTANE, Onyx, O2 and
IRIX are registered trademarks and Origin and Onyx2 are trademarks of Silicon
Graphics, Inc. CRAY and UNICOS are registered trademarks of Cray Research,
LLC. MIPS is a registered trademark of MIPS Technologies, Inc. UNIX is a
registered trademark in the United States and other countries, licensed
exclusively through X/Open Company Ltd. Windows NT is a registered trademark
of Microsoft Corporation. Intel is a registered trademark of Intel
Corporation.
-2-
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SILICON GRAPHICS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
March 31, June 30,
1999 1998 (1)
----------- -----------
(unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.................................... $ 343,967 $ 506,639
Short-term marketable investments............................ 156,786 230,081
Accounts receivable, net..................................... 488,099 665,420
Inventories.................................................. 241,338 322,823
Prepaid expenses and other current assets.................... 368,781 340,409
----------- -----------
Total current assets..................................... 1,598,971 2,065,372
Restricted investments............................................ 167,771 --
Property and equipment, net....................................... 392,586 445,420
Other assets...................................................... 579,063 453,914
----------- -----------
$ 2,738,391 $ 2,964,706
----------- -----------
----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable............................................. $ 176,533 $ 215,260
Other current liabilities.................................... 820,220 881,412
----------- -----------
Total current liabilities................................ 996,753 1,096,672
Long-term debt and other.......................................... 392,466 403,522
Stockholders' equity:
Preferred stock.............................................. 16,998 16,998
Common stock and additional paid-in capital.................. 1,422,811 1,407,108
Retained earnings (accumulated deficit)...................... (51,473) 65,415
Treasury stock............................................... (41,149) (25,976)
Accumulated other comprehensive income....................... 1,985 967
----------- -----------
Total stockholders' equity............................... 1,349,172 1,464,512
----------- -----------
$ 2,738,391 $ 2,964,706
----------- -----------
----------- -----------
</TABLE>
(1) The balance sheet at June 30, 1998 has been derived from the audited
financial statements at that date but does not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
-3-
<PAGE>
SILICON GRAPHICS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Nine Months
Ended March 31, Ended March 31,
-------------------------- --------------------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Product and other revenue............................ $ 454,733 $ 552,385 $ 1,427,770 $ 1,870,181
Service revenue...................................... 164,442 155,906 492,584 456,868
--------- --------- ----------- ----------
Total revenue................................... 619,175 708,291 1,920,354 2,327,049
Costs and expenses:
Cost of product and other revenue............... 256,740 415,222 833,601 1,160,101
Cost of service revenue......................... 102,896 89,060 299,748 261,095
Research and development........................ 93,331 111,975 292,648 345,442
Selling, general and administrative............. 215,574 250,917 670,507 763,600
Other operating expense (1)..................... (6,000) 43,393 (14,000) 115,223
--------- --------- ----------- ----------
Total costs and expenses.................... 662,541 910,567 2,082,504 2,645,461
--------- --------- ----------- ----------
Operating loss ...................................... (43,366) (202,276) (162,150) (318,412)
Gain on sale of a portion of SGI interest in MIPS (2) -- -- 53,963 --
Interest and other income (expense), net............. (7,358) (267) (13,591) (1,036)
--------- --------- ----------- ----------
Loss before income taxes............................. (50,724) (202,543) (121,778) (319,448)
Income tax benefit................................... (10,767) (49,974) (17,814) (79,862)
--------- --------- ----------- ----------
Net loss............................................. (39,957) (152,569) (103,964) (239,586)
Preferred stock dividend requirement................. (131) (131) (394) (394)
--------- --------- ----------- ----------
Net loss available to common stockholders............ $ (40,088) $ (152,700) $ (104,358) $ (239,980)
--------- --------- ----------- ----------
--------- --------- ----------- ----------
Net loss per common share - basic and diluted........ $ (0.21) $ (0.81) $ (0.56) $ (1.29)
--------- --------- ----------- ----------
--------- --------- ----------- ----------
Common shares outstanding - basic and diluted........ 186,685 187,643 186,477 185,892
--------- --------- ----------- ----------
--------- --------- ----------- ----------
</TABLE>
(1) Amount represents a change in previously estimated restructuring
costs in the three- and nine-month periods ended March 31, 1999. Amount
primarily represents an estimated restructuring charge in the three- and
nine-month periods ended March 31, 1998 as well as a write-off of acquired
in-process technology in the nine-month period ended March 31, 1998.
(2) Relates to the initial public offering of a minority interest in the
Company's subsidiary, MIPS Technologies, Inc. ("MIPS")
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
-4-
<PAGE>
SILICON GRAPHICS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
(In thousands)
<TABLE>
<CAPTION>
Nine Months Ended March 31,
-----------------------------------
1999 1998
--------- ---------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ............................................................ $(103,964) $(239,586)
Adjustments to reconcile net loss to net cash provided by
operating activities:
Depreciation and amortization..................................... 165,994 230,816
Write-off of acquired in-process technology....................... -- 16,900
Gain on sale of a portion of SGI interest in MIPS................. (53,963) --
Other............................................................. 14,365 32,537
Changes in operating assets and liabilities:
Accounts receivable............................................. 177,321 517,918
Inventories..................................................... 72,423 181,059
Accounts payable................................................ (38,971) (60,221)
Other assets and liabilities.................................... (125,721) (29,752)
--------- ---------
Total adjustments............................................. 211,448 889,257
--------- ---------
Net cash provided by operating activities......................... 107,484 649,671
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures................................................... (113,462) (148,903)
Proceeds from sale of a portion of SGI interest in MIPS................ 53,963 --
Increase in other assets............................................... (88,102) (85,369)
Purchases of restricted investments.................................... (244,186) --
Proceeds from the maturities of restricted investments................. 76,415 --
Available-for-sale investments:
Purchases......................................................... (341,724) (181,948)
Sales............................................................. 197,740 28,000
Maturities........................................................ 217,511 35,222
--------- ---------
Net cash used in investing activities............................. (241,845) (352,998)
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of debt....................................................... 7,446 12,965
Payments of debt principal............................................. (21,858) (61,302)
Sale of SGI common stock............................................... 38,665 70,792
Repurchase of SGI common stock......................................... (68,042) (31,263)
Sale of MIPS common stock.............................................. 15,872 --
Cash dividends - preferred stock....................................... (394) (394)
--------- ---------
Net cash used in financing activities............................. (28,311) (9,202)
--------- ---------
Net (decrease) increase in cash and cash equivalents................... (162,672) 287,471
Cash and cash equivalents at beginning of period....................... 506,639 227,222
--------- ---------
Cash and cash equivalents at end of period............................. $ 343,967 $ 514,693
--------- ---------
--------- ---------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
-5-
<PAGE>
SILICON GRAPHICS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. CONSOLIDATED FINANCIAL STATEMENTS.
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries and MIPS, a majority-owned subsidiary, after
elimination of significant intercompany transactions and balances. The
unaudited results of operations for the interim periods shown herein are not
necessarily indicative of operating results for the entire fiscal year. In
the opinion of management, all adjustments (consisting only of normal
recurring accruals) necessary to present fairly the financial position,
results of operations and cash flows for all periods presented have been
made. The unaudited condensed consolidated financial statements included in
this Form 10-Q should be read in conjunction with the audited consolidated
financial statements and notes thereto for the fiscal year ended June 30,
1998. Certain amounts for the prior year have been reclassified to conform to
current year presentation.
2. SALE OF INTEREST IN MIPS TECHNOLOGIES, INC.
The initial public offering of a 14.8% interest in the Company's subsidiary,
MIPS, closed on July 6, 1998. Proceeds, net of issuance costs, to the Company
and MIPS were $54 million and $16 million, respectively. The accompanying
condensed consolidated financial statements include the operations of MIPS on
a fully consolidated basis. The publicly held minority interest in the
earnings of MIPS for the third quarter ($1.6 million) and first nine months
($2.7 million) of fiscal 1999 is included in interest and other income
(expense), net in the condensed consolidated statement of operations. The
publicly held minority interest in the net assets of MIPS ($4.9 million) is
included in long-term debt and other in the condensed consolidated balance
sheet.
In April 1999, the outstanding common stock of MIPS was recapitalized into Class
A and Class B Common Stock to permit a multi-step divestiture of the Company's
ownership interest in MIPS. On May 13, 1999, the Company and MIPS commenced a
public offering of 6,000,000 shares of the Class A Common Stock of MIPS owned by
SGI at an offering price to the public of $34.50 per share. SGI has granted the
underwriters of the offering a 30-day option to purchase up to 900,000
additional shares of MIPS Class A Common Stock to cover overallotments, if any.
After the offering, SGI will own approximately 69% of the total outstanding
shares of Class A and Class B Common Stock of MIPS (67% if the undewriters'
overallotment option is exercised in full). As previously announced, SGI
currently intends to dispose of its remaining interest in MIPS in one or more
transactions through public or private offerings, in a dividend or other
distribution to SGI stockholders, in an exchange offer for outstanding shares of
SGI's Common Stock, or other transactions. The timing and form of any further
disposition by SGI of its MIPS stock is subject to the terms of a 90-day lock-up
agreement between SGI and the underwriters, as well as market and other
conditions. SGI has announced that it expects its divestiture of its interest
in MIPS to be completed in the first half of fiscal 2001. See "Risks That
Affect Our Business."
3. INVENTORIES.
Inventories consist of (in thousands):
<TABLE>
<CAPTION>
March 31, 1999 June 30, 1998
-------------- -------------
<S> <C> <C>
Components and subassemblies $ 5,728 $ 114,139
Work-in-process 109,993 74,961
Finished goods 37,124 47,917
Demonstration systems 88,493 85,806
---------- ----------
$ 241,338 $ 322,823
---------- ----------
---------- ----------
</TABLE>
4. RESTRICTED INVESTMENTS.
Restricted investments consist of long-term investments pledged as collateral
against letters of credit and an equity forward purchase arrangement.
Restricted investments are held in the Company's name by major financial
institutions.
-6-
<PAGE>
5. PROPERTY AND EQUIPMENT.
(in thousands)
<TABLE>
<CAPTION>
March 31, 1999 June 30, 1998
-------------- -------------
<S> <C> <C>
Property and equipment, at cost $ 838,103 $ 865,926
Accumulated depreciation and amortization (445,517) (420,506)
--------- ----------
Property and equipment, net $ 392,586 $ 445,420
--------- ----------
--------- ----------
</TABLE>
6. INVESTMENT IN WAM!NET INC.
In March 1999, SGI entered into a series of agreements with WAM!NET Inc.
(WNI). WNI is a private company providing digital networking service that
integrates high-speed digital file transfer with high-bandwidth data
applications intended to improve production workflow in time-sensitive,
data-critical industries such as the graphics arts, entertainment and medical
imaging. Pursuant to those agreements, SGI acquired a minority interest in
WNI preferred stock in exchange for $35 million in cash and title to the
Company's campus facility in Eagan, Minnesota valued at $40 million. SGI will
account for its investment using the cost method. The two companies also have
entered into preferred provider arrangements whereby WNI and SGI each agreed
to purchase hardware, software and service from each other over a four-year
period beginning January 1, 1999.
7. SHORT-TERM BORROWINGS.
In November 1998, the Company terminated its commitment for an unsecured $250
million revolving credit facility. This facility was not used in fiscal 1999
or 1998.
8. RESTRUCTURING CHARGES.
In the second quarter of fiscal 1998, the Company announced and began to
implement a restructuring program aimed at bringing its expenses more in line
with revenue levels and restoring long-term profitability to the Company. The
process of developing this program continued during the balance of fiscal
1998 and included a reevaluation of the Company's core competencies,
technology roadmap and business model, as well as development of its fiscal
1999 operating plan. The Company's restructuring activity in fiscal 1998
consisted primarily of eliminating approximately 1,700 positions,
approximately 1,400 of which were eliminated as of March 31, 1999, writing
down certain operating assets, vacating certain leased facilities and
canceling certain contracts. Through March 31, 1999, these actions have
resulted in aggregate charges of $144 million, excluding the adjustment noted
below, of which approximately $75 million have used or will use cash, and $69
million were non-cash charges. The Company expects that the remaining $10
million accrued balance at March 31, 1999 will result primarily in cash
expenditures and will be financed through working capital.
In the second and third quarters of fiscal 1999, the Company revised its
estimate of the total costs associated with the program described above. As a
result, a cumulative adjustment of approximately $14 million has been
recorded in fiscal 1999. The adjustment primarily reflects lower than
estimated severance and related charges attributable to higher than expected
attrition, as well as lower per person costs. To a lesser extent, estimated
costs of contract cancellations, operating asset reserves and exiting certain
facilities were also adjusted.
The following table depicts the restructuring activity during the first nine
months of fiscal 1999:
-7-
<PAGE>
<TABLE>
<CAPTION>
Balance at Adjustments: Balance at
Category June 30, Increase/ Expenditures March 31,
1998 (Decrease) Cash Non-cash 1999
- -----------------------------------------------------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C> <C>
Severance and related charges $ 49,403 $ (15,500) $(26,296) $ (184) $ 7,423
Operating asset write-down - 4,216 - (4,216) -
Canceled contracts 2,055 (1,916) (139) - -
Vacated facilities 7,274 (1,300) (3,541) (203) 2,230
Other 894 500 (611) - 783
-------- --------- -------- ------- -------
$ 59,626 $ (14,000) $(30,587) $(4,603) $10,436
-------- --------- -------- ------- -------
-------- --------- -------- ------- -------
</TABLE>
9. EARNINGS PER SHARE.
The following table sets forth the computation of basic and diluted loss per
share:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
March 31, March 31,
-------------------------------- -------------------------------
(in thousands, except per share amounts) 1999 1998 1999 1998
- ------------------------------------------------------ ---------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Net loss $ (39,957) $ (152,569) $ (103,964) $ (239,586)
Less preferred stock dividends (131) (131) (394) (394)
--------- ---------- ---------- ----------
Net loss available to common stockholders $ (40,088) $ (152,700) $ (104,358) $ (239,980)
--------- ---------- ---------- ----------
--------- ---------- ---------- ----------
Weighted average shares
outstanding--basic and diluted 186,685 187,643 186,477 185,892
--------- ---------- ---------- ----------
--------- ---------- ---------- ----------
Net loss per share - basic and diluted $ (0.21) $ (0.81) $ (0.56) $ (1.29)
--------- ---------- ---------- ----------
--------- ---------- ---------- ----------
Potentially dilutive securities excluded from
computations because they are anti-dilutive 15,770 11,115 12,113 13,359
--------- ---------- ---------- ----------
--------- ---------- ---------- ----------
</TABLE>
10. COMPREHENSIVE INCOME.
The Company has adopted Statement of Financial Accounting Standards No. 130,
Reporting Comprehensive Income ("SFAS 130") as of the first quarter of fiscal
1999. SFAS 130 establishes new standards for the reporting and display of
comprehensive income and its components, however it has no impact on the
Company's consolidated financial position or results of operations.
The components of comprehensive income, net of tax, are as follows:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
March 31, March 31,
------------------------------ -----------------------------
(in thousands) 1999 1998 1999 1998
- -------------------------------------------------- -------------- --------------- -------------- --------------
<S> <C> <C> <C> <C>
Net loss $ (39,957) $ (152,569) $ (103,964) $ (239,586)
Change in unrealized gain on -
available-for-sale investments (93) 120 (6) 546
Foreign currency translation adjustments (6,725) (3,628) 1,023 (14,473)
--------- ---------- ---------- ----------
Comprehensive income $ (46,775) $ (156,077) $ (102,947) $ (253,513)
--------- ---------- ---------- ----------
--------- ---------- ---------- ----------
</TABLE>
-8-
<PAGE>
The components of accumulated other comprehensive income, net of tax, are as
follows:
<TABLE>
<CAPTION>
March 31, June 30,
(in thousands) 1999 1998
- -------------------------------------------------------------- ------------------ ------------------
<S> <C> <C>
Unrealized gain (loss) on investments $ (75) $ (70)
Foreign currency translation adjustments 2,060 1,037
-------- -------
Accumulated other comprehensive income $ 1,985 $ 967
-------- -------
-------- -------
</TABLE>
11. STOCK REPURCHASE PROGRAM.
The Company's board of directors has authorized a program to repurchase up to
27.5 million shares of its common stock in open market or in private
transactions, option or other forward transactions and other potential methods.
In the third quarter of fiscal 1999, the Company bought or agreed to buy
approximately 6.2 million shares under this program, including shares covered by
an equity forward purchase arrangement with an independent counterparty. At
March 31, 1999, the Company had outstanding commitments to buy an aggregate of
approximately 12.2 million shares of common stock under its equity forward
purchase arrangement, including obligations that were transferred from previous
put contracts. Under this arrangement, the purchase price will be paid within
the next three years at a pre-determined price based on the third-party's
acquisition cost. The timing and method of payment (net-share or full physical
settlement) is at the discretion of the Company. The purchase commitment under
the equity forward is secured in part by collateral, reflected in the Company's
financial statements as restricted investments. Repurchased shares are available
for use under the Company's employee stock plans and for other corporate
purposes. At March 31, 1999, approximately 3.0 million shares remained
available for purchase by the Company under this program.
12. CONTINGENCIES.
The Company is defending the lawsuits described below. The Company believes
that it has good defenses to the claims in each of these lawsuits and is
defending each of them vigorously.
The Company is defending putative securities class action lawsuits filed in
the U.S. District Court for the Northern District of California (the
"Northern District") and in California Superior Court for the County of Santa
Clara in December 1997 and January 1998 alleging that the Company and certain
of its officers made material misrepresentations and omissions during the
period from July to October 1997.
The Company is also defending a securities class action lawsuit filed in
January 1996 in the Northern District of California alleging that the Company
and certain of its officers and directors made material misrepresentations
and omissions during the period from September to December 1995. The lawsuit
was dismissed with prejudice by the District Court in May 1996. The
plaintiffs' appeal to the U.S. Court of Appeals for the Ninth Circuit is
pending.
The Company is also defending a securities class action lawsuit involving
MIPS Computer Systems, Inc., ("MCSI") which the Company acquired in June
1992. The MCSI case, which was filed in 1992 in the Northern District of
California, alleges that MCSI and certain of its officers and directors made
material misrepresentations and omissions during the period from January to
October of 1991. The parties to this case reached an agreement to settle the
case in December 1998, the terms of which were reflected in a Stipulation of
Settlement filed with the Court in January 1999. Under the settlement
agreement, the defendants have agreed to establish a $15 million escrow fund
that shall be administered to pay the representative plaintiffs' costs and
attorney fees, to notify and certify members of the class and to pay the
claims of class members. The settlement amount was largely covered by
insurance. The settlement agreement provides for release of all parties'
claims in connection with the class action and is subject to final approval
of the Court.
The Company also is defending a securities class action lawsuit involving Alias
Research Inc., which the Company acquired in June 1995. The Alias case, which
was filed in 1991 in the U.S. District Court for the District of Connecticut,
alleges that Alias and certain of its former officers and directors made
material misrepresentations and omissions during the period from May 1991 to
April 1992. In October 1997, the
-9-
<PAGE>
defendants' motion to dismiss the amended complaint was granted. In April
1999, the U.S. Court of Appeals for the Second Circuit reversed the dismissal
and remanded the case to the U.S. District Court for the District of
Connecticut. The defendants' petition for rehearing en banc with the U.S.
Court of Appeals is pending.
The Company routinely receives communications from third parties asserting
patent or other rights covering the Company's products and technologies.
Based upon the Company's evaluation, it may take no action or it may seek to
obtain a license. There can be no assurance in any given case that a license
will be available on terms the Company considers reasonable, or that
litigation will not ensue.
Management is not aware of any pending disputes, including those described
above, that would be likely to have a material adverse effect on the
Company's financial condition, results of operations or liquidity. However,
management's evaluation of the likely impact of these pending disputes could
change in the future.
-10-
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION.
This Quarterly Report on Form 10-Q includes forward-looking statements
regarding the Company's business, objectives, financial condition and future
performance. These forward-looking statements include, among others,
statements relating to expected levels of revenue, gross margin, operating
expense, and future profitability, the benefits expected to result from the
transition of our business from declining markets to growth markets,
headcount reductions, conversion to the Euro, year 2000 issues and legal
proceedings. We have based these forward-looking statements on our current
expectations about future events.
These forward-looking statements are subject to risks and uncertainties that
could cause actual results to differ materially from those expressed or
implied in such forward looking statements. Such risks and uncertainties
include, among other things: adverse changes in general economic or business
conditions; adverse changes in the specific markets for the Company's
products, including expected rates of growth and decline in the Company's
current markets; adverse business conditions; changes in customer order
patterns; heightened competition, reflecting rapid technological advances and
constantly improving price/performance, which may result in significant
discounting and lower gross margins; continued success in technological
advancements and new product introduction, including development and
successful introduction of strategic products for specific markets; inability
to effectively implement the Company's desktop and server strategy, including
the development of appropriate distribution, marketing and customer support
models; risks related to dependence on the Company's partners and suppliers;
risks related to foreign operations (including the downturn of economic
trends, unfavorable currency movements, and export compliance issues); risks
associated with year 2000 requirements; risks associated with implementation
of the Company's new business practices, processes and information systems;
litigation involving intellectual property or other issues; and other factors
including those listed under the heading "Risks That Affect Our Business."
We undertake no obligation to publicly update or revise any forward looking
statements, whether changes occur as a result of new information, future
events or otherwise.
RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
OPERATING ITEMS AS A PERCENTAGE OF TOTAL REVENUE
- ----------------------------------------------------------------------------------------------------------
(PERCENTAGES MAY NOT ADD DUE TO ROUNDING)
Three Months Nine Months
Ended March 31, Ended March 31,
------------------------ -------------------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Product and other revenue......................... 73.4% 78.0% 74.3% 80.4%
Service revenue................................... 26.6 22.0 25.7 19.6
------ ------ ------ ------
Total revenue..................................... 100.0% 100.0% 100.0% 100.0%
Gross margin...................................... 41.9 28.8 41.0 38.9
Research and development.......................... 15.1 15.8 15.2 14.8
Selling, general and administrative.............. 34.8 35.4 34.9 32.8
Other operating expense........................... (1.0) 6.1 (0.7) 5.0
------ ------ ------ ------
Operating loss.................................... (7.0) (28.6) (8.4) (13.7)
Interest and other income (expense), net.......... (1.2) -- 2.1 --
------ ------ ------ ------
Loss before income taxes.......................... (8.2) (28.6) (6.3) (13.7)
Income tax benefit................................ (1.7) (7.1) (0.9) (3.4)
------ ------ ------ ------
Net loss.......................................... (6.5)% (21.5)% (5.4)% (10.3)%
------ ------ ------ ------
------ ------ ------ ------
- ----------------------------------------------------------------------------------------------------------
</TABLE>
-11-
<PAGE>
<TABLE>
<CAPTION>
REVENUE BY GEOGRAPHY
- ----------------------------------------------------------------------------------------------------------
Three Months Nine Months
Ended March 31, Year Ended March 31, Year
--------------------------- /Year ------------------------- /Year
($ in millions) 1999 1998 Change 1999 1998 Change
---- ---- ------ ---- ---- ------
<S> <C> <C> <C> <C> <C> <C>
Americas $ 329 $ 382 (14)% $ 1,019 $ 1,252 (19)%
Europe 163 190 (14)% 560 639 (12)%
Rest of World (1) 127 136 (6)% 341 436 (22)%
-------- -------- -------- --------
Total revenue $ 619 $ 708 (13)% $ 1,920 $ 2,327 (17)%
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
<TABLE>
<CAPTION>
REVENUE BY GEOGRAPHY
- ----------------------------------------------------------------------------------------------------------
(as a percentage of total revenue)
Three Months Nine Months
Ended March 31, Ended March 31,
--------------------------- ---------------------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Americas 53% 54% 53% 54%
Europe 26% 27% 29% 27%
Rest of World (1) 21% 19% 18% 19%
</TABLE>
(1) "Rest of World" includes principally Japan and the Asia-Pacific region
<TABLE>
<CAPTION>
REVENUE BY PRODUCT LINE
- ----------------------------------------------------------------------------------------------------------
(as a percentage of product revenue, excluding other revenue)
Three Months Nine Months
Ended March 31, Ended March 31,
------------------------- -------------------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Servers (primarily from the
CRAY-Registered Trademark- and Origin-TM-
families) 49% 51% 52% 51%
Graphics systems (primarily from the
O2-Registered Trademark-, Octane-Registered
Trademark- and Onyx2-TM-families) 51% 49% 48% 49%
</TABLE>
REVENUE. The Company's product and other revenue are derived primarily from
shipment of computer system products, with subsystem and software revenue,
fees and royalty payments comprising the remainder. Service revenue is
comprised of hardware and software support and maintenance and professional
services revenue.
Revenue for both the third quarter and first nine months of fiscal 1999
declined 13% and 17%, respectively, compared with the corresponding periods
of fiscal 1998. Product and other revenue for the third quarter of fiscal
1999 declined compared with the corresponding period of fiscal 1998,
primarily due to strong competition in the shrinking UNIX-Registered
Trademark- workstation market, a weakening vector supercomputer market and
lower than anticipated scalable server product revenue. While sales of the
Company's new Silicon Graphics-Registered Trademark- 320 visual workstation
systems, which began shipping in the third quarter of fiscal 1999, had a
modestly positive effect on the year over year quarterly comparison, they
fell short of the Company's expectations, delivering only about half of the
revenue the Company had hoped to achieve from this new product line in the
third quarter. The Company believes that several factors contributed to the
slow ramp of Visual Workstation sales, including yield issues as volume
production was initiated and start-up issues with the Company's new build to
order process for this product. These factors also affected the delivery of
field demo and evaluation units needed to generate product demand. The
Company has moderated its revenue expectations for this product line in light
of the third quarter performance. Product and other revenue for each product
line in the first nine months of fiscal 1999 declined compared with the
corresponding period of fiscal 1998 reflecting a decline across all existing
product lines and all regions. These year over year declines were sharper in
the UNIX workstation and vector supercomputer product revenues than in
scalable server product revenue for both the third quarter and first nine
months of fiscal 1999. However, revenues from the Company's scalable server
systems also fell short of the Company's expectations, due principally to
competitive issues and the ongoing transition to an industry-oriented
solutions selling model. Service revenue increased for both the third quarter
and first nine months of fiscal 1999 compared with the corresponding periods
of fiscal 1998, across all regions. The increase in service revenue is
primarily due to growth of the Company's
-12-
<PAGE>
professional services business coupled with a slight increase in revenue
generated from support and maintenance.
The Company believes that the decline in the UNIX workstation and vector
supercomputer markets are long-term trends, and that its future success will
require that a larger portion of it revenue come from growing markets,
including the market for scalable servers and Intel-based workstations and
servers. See "Risks That Affect Our Business."
The Company's consolidated backlog at March 31, 1999 was $390 million,
compared with backlog of $366 million at December 31, 1998.
GROSS MARGIN. Cost of product and other revenue includes costs related to
product shipments comprising materials, labor, overhead and other direct or
allocated costs involved in their manufacture or delivery. Cost of service
revenue includes all costs incurred in the support and maintenance of the
Company's products, as well as costs to deliver professional services.
Gross margin of 41.9% and 41.0 % for the third quarter and first nine months
of fiscal 1999, respectively, increased compared with gross margin of 28.8%
and 38.9%, respectively, for the corresponding periods of fiscal 1998. Gross
margin for the third quarter and first nine months of fiscal 1998 would have
been 38.7% and 41.9%, respectively, without non-recurring charges of
approximately $70 million taken in the third quarter related to refocusing
the Company's supercomputer product roadmap. Excluding the impact of
non-recurring charges, gross margin for the third quarter of fiscal 1999
increased 3.2 points compared with the corresponding period of fiscal 1998,
primarily due to higher-margin product configurations within both the
scalable server and graphics workstation families, offset in part by
proportionately higher service revenue. Excluding the impact of non-recurring
charges, gross margin for the first nine months of fiscal 1999 declined
slightly compared with the corresponding period of fiscal 1998, primarily due
to competitive pricing pressures and proportionately higher service revenue.
The Company believes it will continue to experience margin pressure,
particularly in its supercomputer and desktop product lines. In particular,
the Silicon Graphics 320 visual workstation competes directly in the high-end
of the personal computer marketplace in which gross margins are typically
well below the average gross margin levels that the Company has historically
recorded. See "Risks That Affect Our Business."
OPERATING EXPENSE (EXCLUDING OTHER OPERATING EXPENSE). Compared with the
corresponding periods a year ago, operating expense for the third quarter and
first nine months of fiscal 1999 declined 15% and 13%, respectively, and
declined as a percentage of total revenue from 51.2% to 49.9% for the third
quarter of fiscal 1999. The decrease in operating expense resulted from
comparatively lower headcount of approximately 1,300 positions and other
expense control measures. As a percentage of total revenue, operating
expenses increased from 47.7% to 50.2% for the first nine months of fiscal
1999 compared with the same period a year ago primarily due to the decrease
in revenue.
OTHER OPERATING EXPENSE. Other operating expense for the third quarter and
first nine months of fiscal 1999 represents a change in previously estimated
restructuring costs. For the third quarter and first nine months of fiscal
1998 other operating expense includes an estimated restructuring charge of
$96 million. Also included in the first nine months of fiscal 1998 is a $17
million charge for acquired in-process technology recorded in connection with
the acquisition of ParaGraph and $2 million of merger-related expense. For
more information regarding the Company's restructuring activity, see Note 7
of the Notes to Condensed Consolidated Financial Statements (Unaudited)
included in Part I of this Quarterly Report.
INTEREST AND OTHER INCOME (EXPENSE), NET. Interest and other income
(expense), net for the third quarter of fiscal 1999 was ($7.4) million
compared with ($.3) million for the third quarter of fiscal 1998. The year
over year change primarily reflects a partial write-off of an investment and
the minority interest in MIPS, offset in part by a reduction in costs
associated with the Company's economic hedging program. Interest and other
income (expense), net for the first nine months of fiscal 1999 was $40.4
million compared with ($1.0) million for the first nine months of fiscal
1998. The year over year change primarily reflects a $54 million gain on the
sale of a portion of the Company's interest in MIPS in the intial public
offering and higher interest income attributable to higher invested cash
balances. These favorable impacts were partially offset by the write-off of
certain of the Company's investments and
-13-
<PAGE>
the settlement of the securities class action lawsuit that SGI was defending
as a successor in interest to MIPS Computer Systems, Inc. (MCSI).
TAXES. The Company's effective tax benefit rate for the first nine months of
fiscal 1999 was 23%, excluding the impact of the $54 million gain on the sale
of a portion of its interest in MIPS in the first quarter of fiscal 1999 and
a $14 million aggregate change in previously estimated restructuring costs
taken in the second and third quarters of fiscal 1999, which were tax
effected at 38%. The Company's effective tax benefit rate for the first nine
months of fiscal 1998 was 28%, excluding the impact of the $17 million
non-deductible write-off of acquired in-process technology in the first
quarter of fiscal 1998 and the 25% tax benefit resulting from the $96 million
restructuring charges in the second and third quarters of fiscal 1998. The
fiscal 1998 and 1999 benefit rates, excluding the impact of the MIPS gain and
change in estimated restructuring costs in fiscal 1999 and the in-process
technology and restructuring charges in fiscal 1998, differ from the federal
statutory rate primarily due to foreign losses for which no benefit has been
recognized.
At March 31, 1999, the Company had net deferred tax assets of $527 million.
Realization of the majority of the net deferred tax assets is dependent on
the Company's ability to generate approximately $1 billion of future taxable
income. Management believes that it is more likely than not that the assets
will be realized based on forecasted taxable income. However, there can be no
assurance that the Company will meet its expectations of future income.
Management will evaluate the realizability of the deferred tax assets
quarterly and assess the need for additional valuation allowances.
FINANCIAL CONDITION
At March 31, 1999, cash and cash equivalents and marketable and restricted
investments totaled $669 million, down from $737 million at June 30, 1998.
Included in the March 31, 1999 balance is approximately $168 million of
restricted investments that serve as collateral for letters of credit and an
equity forward purchase arrangement. Operating activities generated $107
million during the first nine months of fiscal 1999 compared with $650
million during the first nine months of fiscal 1998. Despite the net loss for
the first nine months of fiscal 1999, cash flow from operating activities was
positive principally due to a decline in accounts receivable, due in part to
shorter collection cycles, and a reduction in inventory levels due to
improved inventory management, including outsourcing of certain manufacturing
activities. Investing activities, other than changes in the Company's
available-for-sale and restricted investments, consumed $148 million in cash
during the first nine months of fiscal 1999, principally for the acquisition
of capital equipment and spare parts, a portion of the investment in WAM!NET
Inc. and an investment in a computer graphics technology company. The use of
cash for investing activities was partially offset by proceeds from the sale
of a portion of the Company's interest in MIPS. Financing activities used $28
million during the first nine months of fiscal 1999 compared with $9 million
during the first nine months of fiscal of 1998. The principal financing
activities during the first nine months of fiscal 1999 included the use of
$68 million to repurchase shares of the Company's common stock and $22
million in principal payments on outstanding debt. The use of cash for
financing activities was partially offset by proceeds from employee stock
purchase plan issuances, employee stock option exercises, the issuance of new
debt and proceeds from the public offering of MIPS common stock.
On May 13, 1999, the Company and MIPS commenced a public offering of 6,000,000
shares of the Class A Common Stock of MIPS owned by SGI at an offering price to
the public of $34.50 per share. SGI has granted the underwriters of the
offering a 30-day option to purchase up to 900,000 additional shares of MIPS
Class A Common Stock to cover overallotments, if any.
After the offering, SGI will own approximately 69% of the total outstanding
shares of Class A and Class B Common Stock of MIPS (67% if the underwriters'
overallotment option is exercised in full). As previously announced, SGI
currently intends to dispose of its remaining interest in MIPS in one or more
transactions through public or private offerings, in a dividend or other
distribution to SGI stockholders, in an exchange offer for outstanding shares of
SGI's Common Stock, or other transactions. The timing and form of any further
disposition by SGI of its MIPS stock is subject to the terms of a 90-day lock-up
agreement between SGI and the underwriters, as well as market and other
conditions. SGI has announced that it expects its divestiture of its interest
in MIPS to be completed in the first half of fiscal 2001. See "Risks That
Affect Our Business."
-14-
<PAGE>
At March 31, 1999, the Company's principal sources of liquidity included cash
and cash equivalents and marketable investments of $501 million. The Company
believes that these principal sources of liquidity, along with cash generated
from operations, the expected proceeds of the MIPS offering, and other
resources available to the Company, should be adequate to fund the Company's
projected cash flow needs. The Company believes that the level of financial
resources is an important competitive factor in the computer industry, and
accordingly, may elect to raise additional capital through debt or equity
financing in anticipation of future needs.
RISKS THAT AFFECT OUR BUSINESS
Silicon Graphics operates in a rapidly changing environment that involves a
number of risks, some of which are beyond the Company's control. The
following discussion highlights some of these risks.
BUSINESS TRANSITION. Two of the principal market sectors in which the Company
competes -- UNIX workstations and vector supercomputers -- have declined over
the past year, and the Company believes that these declines represent
long-term trends. The Company's goal is to transition an increasing
proportion of its revenues to growing markets, including Intel-Registered
Trademark--based workstations and servers and UNIX based scalable servers
such as the Company's Origin server product family. The Company also has
announced a product roadmap that will, over the next several years, merge the
Company's vector supercomputer and scalable server families and ultimately
transition the Company's products to the Intel microprocessor architecture.
This is a long-term transition, and although some benefits are currently
being realized it could take until well into fiscal 2000 or beyond before the
Company has achieved its desired business model. The Company's ability to
achieve its revenue objectives over the next several quarters will largely
depend on the extent to which growth in the Origin family and Windows NT
Visual Workstation products compensates for the expected decline in the other
market sectors.
DESKTOP SYSTEM STRATEGY. The Company has announced a family of desktop
systems, the Silicon Graphics 320 and Silicon Graphics 540 visual
workstations, based upon Intel microprocessors and the Windows NT operating
system. The Silicon Graphics 320 system began commercial shipments in
February 1999; the Silicon Graphics 540 system is scheduled for introduction
in the June quarter. There is no assurance that these systems will be
introduced as scheduled, will achieve the desired levels of market acceptance
or will be available in sufficient quantities to meet demand. Revenues in the
third quarter for the Silicon Graphics 320 system were below the Company's
original expectations due in part to production ramp and other distribution
issues, and the Company has modified its revenue expectations accordingly.
Although the Silicon Graphics 540 is expected to be introduced in the June
quarter, the Company does not expect it to account for significant revenue in
fiscal 1999.
Success in this market segment requires that the Company adapt to very
different requirements: high volume, lower margins; managing an outsourced
model for manufacturing, distribution and support; and marketing to higher
volume segments in which the Company has not historically participated. The
Company will depend on a combination of its existing channels and on
newly-established channel relationships to distribute its products in this
market segment, with accompanying uncertainty as to how long it will take
these new channels to ramp to desired volumes. The Company is also investing
in a significant marketing and advertising campaign for the new products, the
results of which will not be immediately apparent. The Company will also be
required to maintain and extend its customer relationships through a complex
product transition and to support a product line which includes multiple
operating systems.
SERVER STRATEGY. Sustaining growth in the Company's scalable server business
is an important element of its strategic plans for the next several years.
Sustained growth will require, among other things, adapting to a longer sales
cycle and the need to deliver more complete solutions, establishing a
presence in emerging enterprise markets in which the Company has not
traditionally participated, working effectively with independent software
providers to ensure that important applications for the market segments
targeted by the Company are available on the Company's platform, and
ultimately, managing a successful and timely transition to the Intel
architecture.
The Company is also engaged in a transition from its traditional business of
supporting its own proprietary UNIX operating systems, IRIX-Registered
Trademark- and UNICOS-Registered Trademark-, to supporting additional
operating systems such as Windows NT and Linux. The Company believes that
this strategy will position it favorably in growth markets, including the
-15-
<PAGE>
market for 32-bit Intel-based servers. A successful transition to this model
will require the Company to make effective resource allocation choices and
successfully manage a complex set of support and strategic relationships.
DEPENDENCE ON PARTNERS AND SUPPLIERS. The Company's business has always
involved close collaboration with partners and suppliers. However, many
elements of the Company's current business strategy, including the
introduction of Intel-based Windows NT workstations, the longer-term
transition to the Intel architecture, additional outsourcing of
manufacturing, and establishing significant new distribution channels will
increase the Company's dependence on Microsoft, Intel and other partners, and
on its manufacturing partners and other component suppliers. The Company's
business could be adversely affected, for example, if Intel or Microsoft fail
to meet product release schedules, if new channels do not ramp to desired
levels or if unanticipated quality issues arise with products from these
suppliers.
PERIOD TO PERIOD FLUCTUATIONS. The Company's operating results may fluctuate
for a number of reasons. Delivery cycles are typically short, other than for
supercomputer and certain large-scale server products. Well over half of each
quarter's revenue results from orders booked and shipped during the third
month, and disproportionately in the latter half of that month. These factors
make the forecasting of revenue inherently uncertain. Because the Company
plans its operating expenses, many of which are relatively fixed in the short
term, on expected revenue, even a relatively small revenue shortfall may
cause a period's results to be substantially below expectations. Such a
revenue shortfall could arise from any number of factors, including lower
than expected demand, supply constraints, delays in the availability of new
products, transit interruptions, overall economic conditions or natural
disasters. Demand can also be adversely affected by product and technology
transition announcements by the Company or its competitors. The timing of
customer acceptance of certain large-scale server products may also have a
significant effect on periodic operating results. Margins are heavily
influenced by mix considerations, including geographic concentrations, the
mix of product and service revenue, and the mix of server and desktop product
revenue including the mix of configurations within these product categories.
The Company's results have followed a seasonal pattern, with stronger
sequential growth in the second and fourth fiscal quarters, reflecting the
buying patterns of the Company's customers.
The Company's stock price, like that of other technology companies, is
subject to significant volatility. If revenue or earnings in any quarter fail
to meet the investment community's expectations, there could be an immediate
impact on the Company's stock price. The stock price may also be affected by
broader market trends unrelated to the Company's performance.
PROCESS RE-ENGINEERING. The Company is undertaking a series of programs aimed
at redesigning some of its core business processes and related information
technology. The goals of these programs include more predictable operational
performance, lower operating expenses, greater quality and customer
satisfaction, and improved asset management. The Company believes that the
success of these programs is critical to its long-term competitive position.
Implementing these changes will require, among other things, enhanced
information systems, substantial training and disciplined execution. There
can be no assurance that these programs will be implemented successfully, or
that disruptions to the Company's operations will not occur in the process.
PRODUCT DEVELOPMENT AND INTRODUCTION. The Company's continued success depends
on its ability to develop and rapidly bring to market highly differentiated,
technologically complex and innovative products. Product transitions are a
recurring part of the Company's business. A number of risks are inherent in
this process.
-16-
<PAGE>
The development of new technology and products is increasingly complex and
uncertain, which increases the risk of delays. The introduction of a new
computer system requires close collaboration and continued technological
advancement involving multiple hardware and software design teams, internal
and external manufacturing teams, outside suppliers of key components such as
semiconductor and storage products and outsourced manufacturing partners. The
failure of any one of these elements could cause the Company's new products
to fail to meet specifications or to miss the aggressive timetables that the
Company establishes. There is no assurance that acceptance of the Company's
new systems will not be affected by delays in this process.
Short product life cycles place a premium on the Company's ability to manage
the transition to new products. The Company often announces new products in
the early part of a quarter, while the product is in the final stages of
development, and seeks to manufacture and ship the product in volume during
the same quarter. The Company's results could be adversely affected by such
factors as development delays, the release of products to manufacturing late
in any quarter, quality or yield problems experienced by suppliers,
variations in product costs and excess inventories of older products and
components. In addition, some customers may delay purchasing existing
products in anticipation of new product introductions.
YEAR 2000 COMPLIANCE. Many computer systems and applications experience
problems handling dates beyond the year 1999 and will need to be modified
before the year 2000 in order to remain functional. As for many other
companies, the year 2000 computer issue poses a potential risk for the
Company as a user of information systems in the operation of its business, as
a supplier of computer systems and related software, including operating
system software, to customers, and as a customer of other organizations whose
operations may be affected by year 2000 compliance issues.
The Company has completed an assessment of its core business information
systems, many of which are provided by outside suppliers, for year 2000
readiness and is extending that review to include a wide variety of other
information systems and related business processes used in its operations.
The Company plans to have changes to critical systems implemented by the
third quarter of calendar 1999 to allow time for testing. Most of the
Company's mission critical applications are believed to be year 2000
compliant, including the Company's Oracle information system which was
recently upgraded to the most recent version. Although its assessment is
ongoing, the Company currently believes that resolving these matters will not
have a material adverse effect on its financial condition or results of
operations.
The Company is implementing a program to support customer efforts to achieve
year 2000 compliance. This program includes encouraging customers and
independent software vendors to adopt the latest update to its IRIX and
UNICOS operating system, which the Company believes is year 2000 compliant,
and additional customer support procedures. The Company also has made
available software upgrades for some earlier releases of its IRIX operating
system. The Company believes that the hardware systems it expects to support
beyond 1999, when running on compliant operating systems, will be year 2000
compliant. The Company's older products may require upgrade or replacement to
become year 2000 compliant. There can be no assurance that the Company's
current products do not contain undetected errors or defects associated with
year 2000 functions that may result in material costs to the Company. The
Company believes that it generally is not legally responsible for costs
incurred by customers to achieve their year 2000 compliance. However, the
Company may experience increasing customer satisfaction costs relating to
these issues, including potential litigation expenses, over the next few
years.
The Company is also assessing the possible effect on its operations of the
year 2000 readiness of critical suppliers of products and services. These
include not just suppliers of components but also the Company's outsourcing
partners in manufacturing support and even suppliers of basic utilities. The
Company's reliance on its key suppliers, and therefore on the proper
functioning of their information systems and software, is increasing, and
there can be no assurance that another company's failure to address year 2000
issues could not have an adverse effect on the Company.
Certain of the costs associated with the Company's internal Year 2000
compliance effort (exclusive of any potential costs related to any customer
or other claim) cannot effectively be isolated from other operating expenses,
since investing in new systems is both an ordinary cost of doing business and
a means to ensure year 2000 compliance. Our current estimates indicate the
total costs to insure year 2000
-17-
<PAGE>
compliance will not be material. The Company believes that it is unlikely to
experience a material adverse impact on its financial condition or results of
operations due to year 2000 compliance issues. However, since the assessment
process is ongoing, year 2000 complications are not fully known, and
potential liability issues are not clear, the full potential impact of the
year 2000 on the Company is not known at this time. The information regarding
year 2000 issues provided in this Form 10-Q is based on the Company's current
assessment of ongoing activities and is subject to change as the Company
continuously monitors these activities. The Company is currently evaluating
the need for contingency plans associated with potential year 2000 problems.
The Year 2000 disclosure set forth above is a "year 2000 readiness
disclosure" as defined in the Year 2000 Information and Readiness Disclosure
Act of 1998.
INVESTMENT IN MIPS SUBSIDIARY. The value of the Company's interest in its
MIPS Technologies, Inc. subsidiary is determined principally by factors
outside the Company's control and may fluctuate significantly from time to
time. There is no assurance that the Company's interest in MIPS will increase
in value or maintain its current level. The Company's ability to realize the
value of this interest through a series of divestiture transactions over time
is also subject to a number of conditions outside of the Company's control,
including the receipt of a favorable ruling from the IRS as to the tax-free
status of the ultimate divestiture. There can be no assurance that the
Company will be successful in fully realizing the value of the MIPS interest
on a tax and market efficient basis.
EXPORT REGULATION. The Company's sales to foreign customers are subject to
export regulations. Sales of many of the Company's high-end products require
clearance and export licenses from the U.S. Department of Commerce under
these regulations. The Departments of Commerce and Justice are currently
conducting civil and criminal investigations into the Company's compliance
with the export regulations in connection with the sale of several computer
systems to a customer in Russia during fiscal 1997. The Company believes that
these matters will be resolved without a significant adverse effect on the
Company's business. However, there is no assurance that these matters will
not have an unforeseen outcome that could impair the conduct of the Company's
business.
The Company's international sales would also be adversely affected if such
regulations were tightened, or if they are not modified over time to reflect
the increasing performance of the Company's products.
COMPETITION. The computer industry is highly competitive, with rapid
technological advances and constantly improving price/performance. Most of the
Company's competitors have substantially greater technical, marketing and
financial resources and, in some segments, a larger installed base of customers
and a wider range of available applications software. Competition may result in
significant discounting and lower gross margins.
IMPACT OF GOVERNMENT CUSTOMERS. A significant portion of the Company's revenue
is derived from sales to the U.S. government, either directly by the Company or
through system integrators and other resellers. Sales to the government present
risks in addition to those involved in sales to commercial customers, including
potential disruptions due to appropriation and spending patterns and the
government's reservation of the right to cancel contracts for its convenience.
INTELLECTUAL PROPERTY. The Company routinely receives communications from
third parties asserting patent or other rights covering the Company's
products and technologies. Based upon the Company's evaluation, it may take
no action or it may seek to obtain a license. In any given case there is a
risk that a license will not be available on terms that the Company considers
reasonable, or that litigation will ensue. The Company currently has patent
infringement lawsuits pending against it. The Company expects that, as the
number of hardware and software patents issued continues to increase, and as
competition in the markets addressed by the Company intensifies, the volume
of these intellectual property claims will also increase.
-18-
<PAGE>
EMPLOYEES. The Company's success depends on its ability to continue to
attract, retain and motivate highly qualified technical, marketing and
management personnel, who are in great demand. The current uncertainties
surrounding the Company have increased the challenges of retaining
world-class talent.
BUSINESS DISRUPTION. The Company's corporate headquarters, including most of
its research and development operations and manufacturing facilities, are
located in the Silicon Valley area of Northern California, a region known for
seismic activity. A significant earthquake could materially affect operating
results. The Company is not insured for most losses and business
interruptions of this kind.
EURO CONVERSION. As with many multinational companies operating in Europe,
Silicon Graphics is affected by the conversion of 11 European currencies into
the euro beginning in January 1999. Based on its preliminary assessment, the
Company does not believe the conversion will have a material impact on the
competitiveness of its products in Europe, where there already exists
substantial price transparency, or increase the likelihood of contract
cancellations. The Company also believes its current accounting systems will
accommodate the euro conversion with minimal intervention and does not expect
to experience material adverse tax consequences as a result of the
conversion. The convergence of currencies into the euro is expected to reduce
the Company's overall currency risk and simplify the Company's currency risk
management process, including its use of derivatives to manage that risk. The
costs of addressing the euro conversion are not expected to be material and
will be charged to operations as incurred.
MARKET RISK. In the normal course of business, the financial position of the
Company is routinely subjected to a variety of risks, including market risk
associated with interest rate movements and currency rate movements on
non-U.S. dollar denominated assets and liabilities, as well as collectibility
of accounts receivable. The Company regularly assesses these risks and has
established policies and business practices to protect against the adverse
effects of these and other potential exposures. As a result, the Company does
not anticipate material losses in these areas.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The information required under this Item 3 is included in the section above
entitled Market Risk.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is defending a securities class action lawsuit involving MIPS
Computer Systems, Inc., ("MCSI") which the Company acquired in June 1992. The
MCSI case, which was filed in 1992 in the Northern District of California,
alleges that MCSI and certain of its officers and directors made material
misrepresentations and omissions during the period from January to October of
1991. The parties to this case reached an agreement to settle the case in
December 1998, the terms of which were reflected in a Stipulation of Settlement
filed with the Court in January 1999. Under the settlement agreement, the
defendants have agreed to establish a $15 million escrow fund that shall be
administered to pay the representative plaintiffs' costs and attorneys fees, to
notify and certify members of the class and to pay the claims of class members.
The settlement amount was largely covered by insurance. The settlement
agreement provides for release of all parties' claims in connection with the
class action and is subject to final approval of the Court.
The Company also is defending a securities class action lawsuit involving Alias
Research Inc., which the Company acquired in June 1995. The Alias case, which
was filed in 1991 in the U.S. District Court for the District of Connecticut,
alleges that Alias and certain of its former officers and directors made
material misrepresentations and omissions during the period from May 1991 to
April 1992. In October 1997, the defendants' motion to dismiss the amended
complaint was granted. In April 1999, the U.S. Court of Appeals for the Second
Circuit reversed the dismissal and remanded the case to the U.S. District Court
for the District of Connecticut. The defendants' petition for rehearing en banc
with the U.S. Court of Appeals is pending.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.42 (1) 1998 Employee Stock Purchase Plan.
27.1 Financial Data Schedule.
- --------------
(1) Incorporated by reference to exhibits to the Company's Registration
Statement on Form S-8 (No. 333-76445), which became effective April 16,
1999.
-19-
<PAGE>
(b) Reports on Form 8-K.
None
-20-
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: May 14, 1999 SILICON GRAPHICS, INC.
a Delaware corporation
By: Steven J. Gomo
------------------------------
Steven J. Gomo
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
-21-
<PAGE>
SILICON GRAPHICS, INC.
INDEX TO EXHIBITS
Exhibit Description
- ------- -----------
27.1 Financial Data Schedule
-22-
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET, CONSOLIDATED STATEMENT OF OPERATIONS AND
CONSOLIDATED STATEMENT OF CASH FLOWS INCLUDED IN THE COMPANY'S FORM 10-Q FOR THE
PERIOD ENDING MARCH 31, 1999, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS AND THE NOTES THERETO.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-START> JUL-01-1998
<PERIOD-END> MAR-31-1999
<CASH> 343,967
<SECURITIES> 156,786
<RECEIVABLES> 507,456
<ALLOWANCES> 19,357
<INVENTORY> 241,338
<CURRENT-ASSETS> 1,598,971
<PP&E> 838,103
<DEPRECIATION> 445,517
<TOTAL-ASSETS> 2,738,391
<CURRENT-LIABILITIES> 996,753
<BONDS> 361,322
0
16,998
<COMMON> 171
<OTHER-SE> 1,332,004
<TOTAL-LIABILITY-AND-EQUITY> 2,738,391
<SALES> 1,427,770
<TOTAL-REVENUES> 1,920,354
<CGS> 833,601
<TOTAL-COSTS> 1,133,349
<OTHER-EXPENSES> 278,648
<LOSS-PROVISION> 3,459
<INTEREST-EXPENSE> 17,727
<INCOME-PRETAX> (121,778)
<INCOME-TAX> 17,814
<INCOME-CONTINUING> (103,964)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (103,964)
<EPS-PRIMARY> (0.56)
<EPS-DILUTED> (0.56)
</TABLE>
