<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 SEPTEMBER 30,
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 October 29, 1999 there were 183,802,924 shares of Common Stock
outstanding.
<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...................................................... 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk ........................................... 17
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders................................................... 18
Item 6. Exhibits and Reports on Form 8-K...................................................................... 18
Signatures ................................................................................................... 19
Index to Exhibits ............................................................................................ 20
</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. used under license by
Silicon Graphics, 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>
September 30, June 30,
1999 1999 (1)
------------ -----------
(unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents .................................. $ 391,896 $ 571,117
Short-term marketable investments .......................... 146,745 117,026
Accounts receivable, net ................................... 410,981 582,383
Inventories ................................................ 201,022 195,181
Prepaid expenses and other current assets .................. 376,508 381,326
----------- -----------
Total current assets ................................... 1,527,152 1,847,033
Restricted investments .......................................... 101,502 94,226
Property and equipment, net ..................................... 464,343 380,768
Other assets .................................................... 563,579 466,230
----------- -----------
$ 2,656,576 $ 2,788,257
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ........................................... $ 156,127 $ 192,974
Other current liabilities .................................. 899,015 784,079
----------- -----------
Total current liabilities .............................. 1,055,142 977,053
Long-term debt and other ........................................ 388,416 387,005
Stockholders' equity:
Preferred stock ............................................ 16,998 16,998
Common stock and additional paid-in capital ................ 1,425,920 1,421,028
Retained earnings (accumulated deficit) .................... (123,647) 92,449
Treasury stock ............................................. (115,318) (104,633)
Accumulated other comprehensive income ..................... 9,065 (1,643)
----------- -----------
Total stockholders' equity ............................. 1,213,018 1,424,199
----------- -----------
$ 2,656,576 $ 2,788,257
=========== ===========
</TABLE>
(1) The balance sheet at June 30, 1999 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 Ended September 30,
--------------------------------
1999 1998
---- ----
<S> <C> <C>
Product and other revenue ................................. $ 425,001 $ 456,984
Service revenue ........................................... 160,202 159,372
--------- ---------
Total revenue ........................................ 585,203 616,356
Costs and expenses:
Cost of product and other revenue .................... 312,178 284,189
Cost of service revenue .............................. 129,085 94,551
Research and development ............................. 85,350 102,138
Selling, general and administrative .................. 228,360 232,928
Other operating expense (1) .......................... 144,538 --
--------- ---------
Total costs and expenses ......................... 899,511 713,806
--------- ---------
Operating loss ............................................ (314,308) (97,450)
Gain on sale of a portion of SGI interest in MIPS(2) ...... -- 53,963
Interest and other income (expense), net .................. (4,019) (2,709)
--------- ----------
Loss before income taxes .................................. (318,327) (46,196)
Benefit for income taxes .................................. (105,426) (2,530)
--------- ----------
Net loss .................................................. (212,901) (43,666)
Preferred stock dividend requirement ...................... (131) (131)
--------- ----------
Net loss available to common stockholders ................. $(213,032) $ (43,797)
========= ==========
Net loss per share - basic and diluted .................... $ (1.17) $ (0.24)
========= ==========
Common shares outstanding - basic and diluted ............. 181,924 186,329
========= ==========
</TABLE>
(1) Amount represents a charge for estimated restructuring costs.
(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>
Three Months Ended September 30,
--------------------------------
1999 1998
---- ----
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ........................................................ $(212,901) $ (43,666)
Adjustments to reconcile net loss to net cash provided by
operating activities:
Depreciation and amortization .............................. 54,483 62,995
Gain on sale of a portion of SGI interest in MIPS .......... -- (53,963)
Restructuring .............................................. 144,538 --
Other ...................................................... (92,605) 27,319
Changes in operating assets and liabilities:
Accounts receivable ...................................... 171,402 183,646
Inventories .............................................. (11,880) 40,767
Accounts payable ......................................... (36,847) (55,381)
Other assets and liabilities ............................. 8,254 (80,252)
--------- ---------
Total adjustments ...................................... 237,345 125,131
--------- ---------
Net cash provided by operating activities .................. 24,444 81,465
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures ............................................ (154,462) (48,583)
Proceeds from sale of a portion of SGI interest in MIPS ......... -- 53,963
Increase in other assets ........................................ 157 (55,110)
Purchases of restricted investments ............................. (101,502) (53,207)
Proceeds from the maturities of restricted investments .......... 94,226 --
Available-for-sale investments:
Purchases .................................................. (41,620) (73,072)
Sales ...................................................... -- 27,990
Maturities ................................................. 12,005 44,371
--------- ---------
Net cash used in investing activities ...................... (191,196) (103,648)
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of debt ................................................ -- 180
Payments of debt principal ...................................... (1,859) (1,279)
Sale of SGI common stock ........................................ 13,941 2,303
Repurchase of SGI common stock .................................. (24,420) (28,331)
Sale of MIPS common stock ....................................... -- 15,872
Cash dividends - preferred stock ................................ (131) (131)
--------- ---------
Net cash used in financing activities ...................... (12,469) (11,386)
--------- ---------
Net decrease in cash and cash equivalents ....................... (179,221) (33,569)
Cash and cash equivalents at beginning of period ................ 571,117 506,639
--------- ---------
Cash and cash equivalents at end of period ...................... $ 391,896 $ 473,070
========= =========
</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 SGI and our
wholly- and majority-owned subsidiaries. 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, 1999. Certain amounts for the prior year have been reclassified
to conform to current year presentation.
2. INVENTORIES.
Inventories consist of (in thousands):
<TABLE>
<CAPTION>
September 30, 1999 June 30, 1999
------------------ -------------
<S> <C> <C>
Components and subassemblies $ 33,404 $ 19,988
Work-in-process 82,169 71,406
Finished goods 25,650 41,694
Demonstration systems 59,799 62,093
-------- --------
$201,022 $195,181
======== ========
</TABLE>
3. 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.
4. PROPERTY AND EQUIPMENT.
(in thousands)
<TABLE>
<CAPTION>
September 30, 1999 June 30, 1999
------------------ -------------
<S> <C> <C>
Property and equipment, at cost $ 1,095,087 $ 980,819
Accumulated depreciation and amortization (630,744) (600,051)
----------- -----------
Property and equipment, net $ 464,343 $ 380,768
=========== ===========
</TABLE>
5. RESTRUCTURING AND RELATED CHARGES.
In the second quarter of fiscal 1998, we announced and began to implement a
restructuring program aimed at bringing our expenses more in line with the
current revenue levels and restoring long-term profitability to SGI. This
restructuring program was broad-based and covered virtually all aspects of
our products, operations and processes. The process of developing this
program included a reevaluation of our core competencies, technology roadmap
and business model, as well as development of our fiscal 1999 operating plan.
During the first quarter of fiscal 2000, there were no changes in estimated
restructuring costs associated with the fiscal 1998 actions and we paid $1
million in severance and related costs.
During the first quarter of fiscal 2000, we announced and began to implement
additional restructuring actions with the objective to reduce our overall
operating expense levels for fiscal 2000 by approximately $250 million from
the fiscal 1999 levels. These actions resulted in aggregate charges of $145
million. The charges included $62 million for the elimination of
approximately 1,100 positions in essentially all of our functions and
locations. As of September 30, 1999, we had separation agreements with
approximately 600 individuals and plan to reach agreement with substantially
all the additional individuals by December 31, 1999. All severance payments
and related charges, which consist primarily of expected payroll taxes,
extended medical benefits, statutory legal obligations and outplacement
services are expected to be paid by June 30, 2000. We also recorded
operating asset write downs of $26.5 million for fixed assets and evaluation
units, prepaid license agreements and other intangible assets associated with
the end of life of our Silcon Graphics-Registered Trademark- 320 and 540
visual workstations and certain high-end graphics development projects that
were canceled. Third party contact cancellation charges associated with the
above actions totaled $8.5 million. Our plan also requires vacating
approximately 1,500,000 square feet of leased sales and administrative
facilities throughout the world, with lease terms expiring through 2004. We
estimate this action will require ongoing lease payments of $26 million until
subleases can be arranged, abandoning $11 million of leasehold improvements
and other fixed assets and incurring $7 million of put-back and exit costs.
We expensed $4.1 million for professional services fees directly related to
the restructuring plan, which were provided prior to September 30,1999.
Management has determined the fair values associated with the recovery of all
assets affected by the above actions and accordingly has recorded non-cash
asset write-downs of $38 million. The remainder of the actions have or will
result in cash expenditures of $107 million.
In addition to the actions noted above as a result of our decision to end of
life our Silicon Graphics 320 and 540 visual workstations, we charged
directly to cost of product and other revenue approximately $40 million for
third party manufacturing contract cancellations and purchase commitments,
and $20 million for excess product inventory and demonstration inventory. We
also charged $20 million to cost of service revenue for unrecoverable future
support costs.
-6-
<PAGE>
The following table depicts the restructuring activity during the first three
months of fiscal 2000:
<TABLE>
<CAPTION>
Category Balance at Expenditures Balance at
June 30, 1999 Additions Cash Non-cash Sept. 30, 1999
- ----------------------------------------------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C> <C>
Severance and related charges $ 5,218 $ 61,675 $ (10,823) $ - $ 56,070
Operating asset write-down - 26,584 - (26,584) -
Canceled contracts - 8,468 (46) - 8,422
Vacated facilities 1,049 43,666 (898) (11,157) 32,660
Other 2,166 4,145 (1,936) - 4,375
--------- --------- --------- --------- ---------
$ 8,433 $ 144,538 $ (13,703) $ (37,741) $ 101,527
========= ========= ========= ========= =========
</TABLE>
6. EARNINGS PER SHARE.
The following table sets forth the computation of basic and diluted loss per
share:
<TABLE>
<CAPTION>
Three Months Ended
September 30,
--------------------------------
(in thousands, except per share amounts) 1999 1998
- ------------------------------------------------------------------------------------------
<S> <C> <C>
Net loss $(212,901) $ (43,666)
Less preferred stock dividends (131) (131)
--------- ---------
Net loss available to common stockholders $(213,032) $ (43,797)
========= =========
Weighted average shares
outstanding-basic and diluted 181,924 186,329
========= =========
Net loss per share - basic and diluted $ (1.17) $ (0.24)
========= =========
Potentially dilutive securities excluded from
computations because they are anti-dilutive 12,087 9,984
========= =========
</TABLE>
7. COMPREHENSIVE INCOME.
The components of comprehensive income, net of tax, are as follows:
<TABLE>
<CAPTION>
Three Months Ended
September 30,
-----------------------------
(in thousands) 1999 1998
- -------------------------------------------------------------------------------------------
<S> <C> <C>
Net loss $(212,901) $ (43,666)
Change in unrealized gain on available-for-sale
investments 91 77
Change in unrealized gain on derivative instruments
designated and qualifying as cash flow hedges 606 --
Foreign currency translation adjustments 10,011 9,714
--------- ---------
Comprehensive income $(202,193) $ (33,875)
========= =========
</TABLE>
-7-
<PAGE>
The components of accumulated other comprehensive income (loss), net of tax,
are as follows:
<TABLE>
<CAPTION>
September 30, June 30, 1999
(in thousands) 1999
- ------------------------------------------------------------------------------------------------------
<S> <C> <C>
Unrealized gain (loss) on available-for-sale investments $ (27) $ (118)
Unrealized gain (loss) on derivative instruments designated
and qualifying as cash flow hedges 606 --
Foreign currency translation adjustments 8,486 (1,525)
--------- ---------
Accumulated other comprehensive income $ 9,065 $ (1,643)
========= =========
</TABLE>
8. DERIVATIVE FINANCIAL INSTRUMENTS
ACCOUNTING POLICY - On July 1, 1999, we adopted Statement of Financial
Accounting Standard No. 133, Accounting for Derivative Instruments and
Hedging Activities ("SFAS 133"). SFAS 133 requires the recognition of all
derivatives on the balance sheet at fair value. Derivatives that are not
hedges of underlying transactions are adjusted to fair value through income.
If the derivative is a hedge, depending on the nature of the hedge, changes
in the fair value of the derivative are offset against the change in fair
value of the hedged assets, liabilities or firm commitments through earnings
or are recognized in other comprehensive income until the hedged item is
recognized in earnings. The ineffective portion of a derivative's fair value
is immediately recognized in earnings.
The effectiveness test for derivatives used to hedge the underlying economic
exposure is determined by using the forward-to-forward rate comparison for
currency forward contracts which makes same-currency hedges perfectly
effective. For currency option contracts, the effectiveness is measured on an
intrinsic basis using only the current spot rate and the strike price for
both the currency option contract (either put or call option) and the
underlying transaction. The result of this is that same-currency hedges are
perfectly effective. All time value and volatility changes are deemed
ineffective and are immediately recognized in earnings.
RISK MANAGEMENT - In the normal course of business, our financial position 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. We regularly assess risks and have
established policies and business practices to protect against the adverse
effects of these and other potential exposures. We use derivatives to
moderate the financial market risks of our business operations by hedging the
foreign currency market exposures underlying certain assets and liabilities
and commitments related to customer transactions. We do not use derivatives
for trading purposes.
CASH FLOW HEDGES - Cash flow hedges are hedges of forecasted transactions or
of the variability of cash flows to be received or paid related to a
recognized asset or liability. We purchase currency options and currency
forward contracts generally expiring within one year as hedges of anticipated
sales that are denominated in foreign currencies. These contracts are entered
into to protect against the risk that the eventual cash flows resulting from
such transactions will be adversely affected by changes in exchange rates.
The net gain recognized in accumulated other comprehensive income as of
September 30, 1999 was $0.6 million. The effect on earnings for the three
month period ended September 30, 1999 relating to the ineffectiveness of
hedging activities was not material. Based on the fluid nature our risk
management strategy and the ongoing assessment and reassessment of required
hedging activities, we currently cannot reasonably estimate the amount in
accumulated other comprehensive income as of September 30, 1999 which will be
reclassified into earnings within the next twelve months.
ACCUMULATED DERIVATIVE GAINS OR LOSSES - The following table summarizes
activity in other comprehensive income related to derivatives classified as
cash flow hedges held by us during the period from July 1, 1999 through
September 30, 1999 (in thousands):
<TABLE>
<S> <C>
Cumulative effect of adopting SFAS 133 $ 0
-------
Reclassified into earnings from other
comprehensive income, net $ (960)
-------
Changes in fair value of derivatives, net $ 1,566
-------
Accumulated derivative gain included in
other comprehensive income $ 606
-------
</TABLE>
9. SEGMENT INFORMATION.
SGI is a market leader in technical computing, offering powerful servers,
supercomputers and visual workstations. We have three reportable segments:
Servers, Visual Workstations and Global Services. Reportable segments are
determined based on several factors including customer base, homogeneity of
products, technology, delivery channels and other factors. We evaluate
performance and allocates resources to each of these segments based on profit or
loss from operations before interest and taxes.
In addition to the aforementioned reportable segments, expenses of the sales and
marketing, manufacturing, finance and administration groups are allocated to the
operating units and are included in the results reported. The revenue and
related expenses of our wholly-owned software subsidiary Alias|Wavefront and our
majority-owned subsidiary MIPS, a designer of high-performance processors and
related intellectual property, as well as certain corporate-level operating
expenses are not allocated to operating units and are included in "Other" in the
reconciliation of reported revenue and operating profit.
We do not identify or allocate assets or depreciation by operating segment, nor
do we evaluate segments on these criteria. Operating units do not sell product
to each other, and accordingly, there is no inter-segment revenue to be
reported.
Information on reportable segments is as follows (in thousands):
<TABLE>
<CAPTION>
Three Months Ended September 30,
Visual Global
Servers Workstations Services
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1999:
Revenue from external customers $ 214,893 $ 160,035 $ 166,084
Segment profit (loss) $ (56,586) $(113,710) $ (6,546)
Significant item:
Non-recurring charges for contract cancellations and
inventory and future support costs related to the
Silicon Graphics 320 and 540 visual workstation $ -- $ (65,790) $ (19,750)
- -----------------------------------------------------------------------------------------------------------------------
1998:
Revenue from external customers $ 259,205 $ 148,991 $ 167,068
Segment profit (loss) $ (64,121) $ (60,334) $ 25,104
Significant noncash items:
Asset valuation adjustments $ -- $ (6,000) $ --
- -----------------------------------------------------------------------------------------------------------------------
</TABLE>
-8-
<PAGE>
Reconciliation to SGI as reported (in thousands):
<TABLE>
<CAPTION>
3 Months Ended September 30,
------------------------------
2000 1999
- --------------------------------------------------------------------------------------------
<S> <C> <C>
REVENUE:
Total reportable segments $ 541,012 $ 575,264
Other 44,191 41,092
---------- ---------
Total SGI consolidated $ 585,203 $ 616,356
========== =========
OPERATING PROFIT (LOSS):
Total reportable segments $ (176,842) $ (99,351)
Other 7,072 1,901
Restructuring (144,538) --
---------- ---------
Total SGI consolidated $ (314,308) $ (97,450)
========== =========
</TABLE>
10. CONTINGENCIES.
We are defending the lawsuits described below. We believe we have good defenses
to the claims in each of these lawsuits and we are defending each of them
vigorously.
We are defending putative securities class action lawsuits filed in the U.S.
District Court for the Northern District of California and in California
Superior Court for the County of Santa Clara in December 1997 and January
1998 alleging that SGI and certain of its officers made material
misrepresentations and omissions during the period from July to October 1997.
The U.S. District Court is considering plaintiffs' motion for a voluntary
dismissal of the case without prejudice and defendants' motion for partial
summary judgment. Discovery is proceeding in the California Superior Court
case.
We are also defending a securities class action lawsuit filed in January 1996 in
the Northern District of California alleging that SGI 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. In July, 1999, the U.S. Court of Appeals for
the Ninth Circuit upheld the dismissal and in October 1999, the same court
declined to rehear the case. The plaintiffs are considering whether they will
petition the U.S. Supreme Court to consider this case.
We are also defending a securities class action lawsuit involving Alias
Research Inc., which we 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 U.S. Court of Appeals has
denied defendants' petition for rehearing.
We routinely receive communications from third parties asserting patent or other
rights covering our products and technologies. Based upon our evaluation, we may
take no action or we may seek to obtain a license. There can be no assurance in
any given case that a license will be available on terms we consider reasonable,
or that litigation will not ensue.
We are not aware of any pending disputes, including those described above, that
would be likely to have a material adverse effect on SGI's financial condition,
results of operations or liquidity. However, our evaluation of the likely impact
of these pending disputes could change in the future.
-9-
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION.
MANAGEMENT'S DISCUSSION AND ANALYSIS
This Quarterly Report on Form 10-Q includes forward-looking statements regarding
our 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, our business transition objectives, anticipated headcount
reductions, year 2000 issues and the expected impact on our business of legal
proceedings and government regulatory actions. 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 our products, including expected
rates of growth and decline in our current markets; adverse business conditions;
changes in customer order patterns; the impact of employee attrition rates;
heightened competition, reflecting rapid technological advances and constantly
improving price/performance, which may result in significant discounting and
lower gross profit margins; continued success in technological advancements and
new product introduction, including timely development and successful
introduction of strategic products for specific markets; inability to
effectively implement our visual workstation and server strategy, including the
development of appropriate distribution, marketing and customer support models;
risks related to dependence on our 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 our new business
practices, processes and information systems; litigation involving export
compliance, 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. The matters addressed in this discussion, with the exception of
the historical information presented, are forward-looking statements involving
risks and uncertainties, including business transition, year 2000 compliance and
other risks discussed under the heading "Risks That Affect Our Business" and
elsewhere in this report. Our actual results may differ significantly from the
results discussed in the forward-looking statements.
INTRODUCTION
The first quarter of fiscal 2000 was a quarter of significant transition and
disappointing operating results. On August 10, 1999 we announced a series of
strategic changes including the following:
A new direction for our Visual Workstation product line, as a result of
which going forward we will work with partners in the Intel-based workstation
segment to deliver more industry-standard products as compared to the unique
architecture of the original Silicon Graphics 320 and 540 visual workstations.
Our decision to move our Cray-Registered Trademark-branded vector
supercomputer product line into a separate business unit and to seek a
partnership to assume the operation of that business.
An increased focus on delivering broadband solutions for media serving
and other emerging internet applications.
A restructuring of operations to bring our operating expenses more in
line with current revenues, including the elimination of over 1,000 positions
worldwide.
The uncertainty caused by these announcements, both within our company and in
the customer base, was compounded by the unexpected resignation on August 23,
1999 of Richard Belluzzo, our Chairman and CEO. Under the leadership of his
successor, Robert Bishop, we have been working to implement the announced
strategic changes and to stabilize the company and our customer
relationships. However, the short-term impact on bookings and revenues was
significantly negative in our first quarter of fiscal 2000.
<TABLE>
<CAPTION>
RESULTS OF OPERATIONS Three Months Ended
September 30,
- ----------------------------------------------------------------------
$ in millions 1999 1998
- ----------------------------------------------------------------------
<S> <C> <C>
Total revenue $ 585 $ 616
Cost of revenue 441 379
- ----------------------------------------------------------------------
Gross profit 144 238
Gross profit margin 24.6% 38.6%
Total operating expenses 458 335
- ----------------------------------------------------------------------
Operating loss (314) (97)
Other income (expense) (4) 51
- ----------------------------------------------------------------------
Loss before income taxes (318) (46)
- ----------------------------------------------------------------------
Net loss $ (213) $ (44)
- ----------------------------------------------------------------------
Net loss per share - basic and diluted $ (1.17) $ (0.24)
- ----------------------------------------------------------------------
</TABLE>
REVENUE
Total revenue is principally derived from three reportable segments: Servers,
Visual Workstations and Global Services, which were determined based on
factors such as customer base, homogeneity of products, technology, delivery
channels and other factors. The server segment's products include the
Onyx2-TM-, Origin-TM- and Cray product families. The Visual Workstation
segment's products include the O2-Registered Trademark-, Octane-Registered
Trademark- and Silicon Graphics 320 and 540 visual workstations.
Revenue for the first quarter of fiscal 2000 decreased $31 million or 5%
compared with the first quarter of fiscal 1999. This decrease reflects a
decline in our Origin brand scalable server business, as well as the
continuing trends in the declining vector supercomputer and UNIX-Registered
Trademark- workstation markets which are part of our Server and Visual
Workstation segments, respectively.
-10-
<PAGE>
The following table presents total revenue by reportable segment.
<TABLE>
<CAPTION>
Three Months Ended
September 30,
- -----------------------------------------------------
$ in millions 1999 1998
- -----------------------------------------------------
<S> <C> <C>
Servers $ 215 $ 259
% of total revenue 37% 42%
Visual Workstations $ 160 $ 149
% of total revenue 27% 24%
Global Services $ 166 $ 167
% of total revenue 28% 27%
Other $ 44 $ 41
% of total revenue 8% 7%
- -----------------------------------------------------
</TABLE>
Server revenue for the first quarter of fiscal 2000 decreased $44 million or
17% compared with the first quarter of fiscal 1999. The decrease reflects the
continuing trend in the declining vector supercomputer market coupled with
lower revenue within our Origin brand scalable server business reflecting
market uncertainty with regard to our recent reorganization. The decreases
were offset in part by modest year over year growth in our Onyx-Registered
Trademark- supercomputer revenue.
Visual Workstation revenue for the first quarter of fiscal 2000 increased $11
million or 7% compared with the first quarter of fiscal 1999. Sales of our
UNIX workstation product continued to shrink year over year. This decline was
partially offset by sales of our Silicon Graphics 320 and 540 visual
workstation systems, but in fact the sales performance of these products
continued to be disappointing. In light of this performance and the
transition to more industry-standard Windows NT-Registered Trademark-based
products reflected in the strategic announcements on August 10, we recorded a
charge in the first quarter of fiscal 2000 anticipating the end of life of
the Silicon Graphics 320 and 540 products. See "Gross Profit Margin" and
"Other Operating Expenses."
Global Services revenue, which is comprised of hardware and software support
and maintenance, professional services and remanufactured systems sales,
remained approximately flat year over year.
Other revenue is principally comprised of our operating units that are not
reportable segments, including the product and service revenue of our
applications software subsidiary, Alias|Wavefront, and MIPS Technologies, our
majority-owned subsidiary that develops and markets microprocessors and
related intellectual property.
Total revenue by geographic area was as follows (in millions):
<TABLE>
<CAPTION>
Three Months Ended
September 30,
- -----------------------------------------------
Area 1999 1998
- -----------------------------------------------
<S> <C> <C>
Americas $351 $326
Europe 150 184
Rest of World 84 106
- -----------------------------------------------
Total revenue $585 $616
- -----------------------------------------------
</TABLE>
Geographic revenue as a percentage of total revenue was as follows:
<TABLE>
<CAPTION>
Three Months Ended
September 30,
- ------------------------------------------------
Area 1999 1998
- ------------------------------------------------
<S> <C> <C>
Americas 60% 53%
Europe 26% 30%
Rest of World 14% 17%
- ------------------------------------------------
</TABLE>
-11-
<PAGE>
As a percentage of revenue, a larger portion of our revenue is being
generated in the Americas, primarily the United States where our Onyx server
business grew year over year and where our UNIX workstation business has been
stable despite the shrinking market for this product line.
Our consolidated backlog at September 30, 1999 was $333 million compared with
$376 million at June 30, 1999.
GROSS PROFIT MARGIN
Cost of product and other revenue includes costs related to product shipments,
including materials, labor, overhead and other direct or allocated costs
involved in their manufacture or delivery. Costs associated with non-recurring
engineering revenue are included in research and development expense. Cost of
service revenue includes all costs incurred in the support and maintenance of
our products, as well as costs to deliver professional services.
Our overall gross profit margin decreased to 24.6% in the first quarter of
fiscal 2000 compared with 38.6% in the first quarter of fiscal 1999. Gross
profit margin for the first quarter of fiscal 2000 included non-recurring
charges related to our Silicon Graphics 320 and 540 visual workstations. We
charged cost of product and other revenues approximately $40 million for
third party manufacturing contract cancellations and purchase commitments and
$20 million for excess product and demonstration inventory. We also charged
$20 million to cost of service revenue for future unrecoverable support
costs. Without these charges, our gross profit margin for the first quarter
of fiscal 2000 would have been 39.2%, an increase of 0.6 percentage points
year over year. We have been able to maintain a fairly consistent gross
profit margin by consolidation and outsourcing of certain manufacturing
operations and continued improvements in manufacturing efficiencies and
procurement practices. Fairly consistent gross profit margins have been
maintained despite continuing pricing pressures in both the Server and Visual
Workstation segments, as well as in our Global Services business,
specifically in the professional services area as we continue to incur
disproportionate costs to ramp the business.
OPERATING EXPENSES
<TABLE>
<CAPTION>
Three months ended
September 30,
$ in millions 1999 1998
- --------------------------------------------------------------------
<S> <C> <C>
Research and development $85 $102
% of total revenue 14.6% 16.6%
Selling, general and administrative $228 $233
% of total revenue 39.0% 37.8%
Other $145 $ --
% of total revenue 24.7% --
- --------------------------------------------------------------------
</TABLE>
OPERATING EXPENSE (EXCLUDING OTHER OPERATING EXPENSE). Operating expense for the
first quarter of fiscal 2000 declined 6% in absolute dollars and, as a
percentage of total revenue, from 54.4% to 53.6% compared with the first quarter
of fiscal 1999. The decrease in operating expense resulted from comparatively
lower headcount of approximately 1,100 positions and other expense control
measures, including more focused research and development project spending and
management. We believe that these operating expense levels continue to be
higher than appropriate given current revenue levels, and accordingly during
Q1 took a series of restructuring actions to reduce further our operating
expenses. Our objective is to reduce our overall operating expense levels for
fiscal 2000 by approximately $250 million from the fiscal 1999 levels.
OTHER OPERATING EXPENSE. In the second quarter of fiscal 1998, we announced
and began to implement a restructuring program aimed at bringing our expenses
more in line with the current revenue levels and restoring long-term
profitability to SGI. This restructuring program was broad based and covered
virtually all aspects of our products, operations and processes. The process
of developing this program included a reevaluation of our core competencies,
technology roadmap and business model, as well as development of our fiscal
1999 operating plan. During the first quarter of fiscal 2000, there were no
changes in estimated restructuring costs associated with the fiscal 1998
actions and we paid $1 million in severance and related costs.
During the first quarter of fiscal 2000, we announced and began to implement
additional restructuring actions with the objective to reduce our overall
operating expense levels for fiscal 2000 by approximately $250 million from
the fiscal 1999 levels. These actions resulted in aggregate charges of $145
million. The charges included $62 million for the elimination of
approximately 1,100 positions in essentially all of our functions and
locations. As of September 30, 1999, we had separation agreements with
approximately 600 individuals and plan to reach agreement with substantially
all the additional individuals by December 31, 1999. All severance payments
and related charges, which consist primarily of expected payroll taxes,
extended medical benefits, statutory legal obligations and outplacement
services are expected to be paid by June 30, 2000. We also recorded
operating asset write downs of $26.5 million for fixed assets and evaluation
units, prepaid license agreements and other intangible assets associated with
the end of life of our Silcon Graphics 320 and 540 visual workstations and
certain high-end graphics development projects that were canceled. Third
party contact cancellation charges associated with the above actions totaled
$8.5 million. Our plan also requires vacating approximately 1,500,000 square
feet of leased sales and administrative facilities throughout the world, with
lease terms expiring through 2004. We estimate this action will require
ongoing lease payments of $26 million until subleases can be arranged,
abandoning $11 million of leasehold improvements and other fixed assets and
incurring $7 million of put-back and exit costs. We expensed $4.1 million
for professional services fees directly related to the restructuring plan,
which were provided prior to September 30,1999. Management has determined
the fair values associated with the recovery of all assets affected by the
above actions and accordingly has recorded non-cash asset write-downs of $38
million. The remainder of the actions have or will result in cash
expenditures of $107 million.
INTEREST AND OTHER
INTEREST EXPENSE Interest expense for the first quarter of fiscal 2000 remained
relatively consistent compared with the first quarter of fiscal 1999.
INTEREST INCOME AND OTHER, NET Interest income and other, net includes
interest income on our cash investments, gains and losses on other
investments, the 34% minority interest in the earnings of MIPS and other
non-operating items. Interest income and
-12-
<PAGE>
other, net for the first quarter of fiscal 2000 decreased $56 million
compared with the first quarter of fisal 1999. Interest income on our cash
investments decreased slightly year over year due to lower cash balances. The
decrease in interest and other income, net for the first quarter of fiscal
2000 was primarily due to a $54 million gain on the sale of a portion of our
interest in MIPS recorded in the first quarter of fiscal 1999. We did not
sell any portion of our remaining interest in MIPS in the first quarter of
fiscal 2000.
TAXES The effective tax benefit rate for the first quarter of fiscal 2000 was
23%, excluding the impact of the $86 million related to the Silicon Graphics
320 and 540 visual workstation product line and the $145 million charge for
estimated restructuring costs, which were tax effected at 37%. The effective
tax benefit rate for the first quarter of fiscal 1999 was also 23%, excluding
the impact of the $54 million gain on the sale of a portion of our interest
in MIPS, which was taxed at 38%. The fiscal 2000 and 1999 benefit rates,
excluding the charges related to the Silicon Graphics 320 and 540 products
and estimated restructuring charges in fiscal 2000 and the impact of the MIPS
gain in fiscal 1999, differ from the federal statutory rate primarily due to
foreign losses for which no benefit has been recognized.
At September 30, 1999, we had gross deferred tax assets arising from deductible
temporary differences, tax losses and tax credits of $712 million. A valuation
allowance of $117 million and deferred tax liability of $38 million offset the
gross deferred tax assets. Realization of the net deferred tax assets is
dependent on our ability to generate approximately $1.2 billion of future
taxable income. We believe that it is more likely than not that the assets will
be realized based on forecasted income, including income from the planned
divestiture of our interest in MIPS. However, there can be no assurance that we
will achieve our expectations of future income. Therefore, on a quarterly basis,
we will evaluate the realizability of the deferred tax assets and assess the
need for additional valuation allowances.
FINANCIAL CONDITION
At September 30, 1999, cash and cash equivalents and marketable and
restricted investments totaled $640 million, down from $782 million at June
30, 1999. Included in the September 30, 1999 and June 30, 1999 balances are
approximately $102 million and $94 million, respectively, of restricted
investments that serve as collateral for letters of credit and an equity
forward purchase arrangement.
Operating activities generated $24 million during the first quarter of fiscal
2000 compared with $81 million during the first quarter of fiscal 1999.
Despite the net loss for the first quarter of fiscal 2000, cash flow from
operating activities was positive. The positive operating cash flow was
principally due to a decrease in accounts receivable due in part to lower
revenue levels. Operating cash flows were also positively impacted by the
fact that the $86 million charge related to the Silicon Graphics 320 and 540
products and the $145 million charge for estimated restructuring costs
consumed only $12 million in the first quarter of fiscal 2000. These charges
are expected to result in cash outlays of approximately $159 million, the
majority of which will occur over the remainder of fiscal 2000 and will be
funded through current working capital. For more information regarding our
restructuring activity, see Note 5 of Notes to Condensed Consolidated
Financial Statements (Unaudited) included in Part I of this Quarterly Report.
Cash flow from operating activities was negatively impacted by the increase
in deferred tax assets that did not provide cash.
Investing activities, other than changes in our available-for-sale and
restricted investments, consumed $154 million in cash during the first
quarter of fiscal 2000 compared with $50 million in the first quarter of
fiscal 1999. The principal investing activity in the first quarter of fiscal
2000 is attributable to our election to exercise an option to purchase five
buildings on our Mountain View campus for approximately $125 million that had
been held under an off-balance sheet financing arrangement.
Financing activities used $12 million during the first quarter of fiscal 2000
compared with $11 million during the first quarter of fiscal of 1999. The
principal financing activities during the first quarter of fiscal 2000 included
the use of $24 million to repurchase shares of our common stock, offset in part
by proceeds from employee stock option exercises.
At September 30, 1999, our principal sources of liquidity included cash and
cash equivalents and marketable investments of $539 million. We believe that
these principal sources of liquidity, along with cash generated from
operations, the expected proceeds from future MIPS offerings, and other
resources available to us, should be adequate to fund our projected cash flow
needs. We believe that the level of financial resources is an important
competitive factor in the computer industry, and accordingly, we may elect to
raise additional capital through debt or equity financing in anticipation of
future needs.
-13-
<PAGE>
RISKS THAT AFFECT OUR BUSINESS
SGI operates in a rapidly changing environment that involves a number of risks,
some of which are beyond our control. This discussion highlights some of these
risks.
BUSINESS TRANSITION. We are in the process of implementing strategic changes
affecting all of our major businesses. The principal changes include the
following:
WORKSTATION BUSINESS. We are managing a long-term decline in our Unix
workstation business by reducing our overall investment in this product line
while continuing to introduce new product generations based on higher
performance MIPS microprocessors and, late in fiscal 1999, a next generation
graphics architecture. We are also managing a transition in our Intel-based
workstation product line from the unique architecture of the Silicon Graphics
320 and 540 Visual Workstations to more industry standard architectures. Our
objective in both cases is to participate in important sectors of the market
while scaling our investment appropriately based on the opportunity presented.
SERVER BUSINESS. We have announced a product roadmap that will, over
the next five years, shift our products to the Intel microprocessor
architecture. This will include a long-term transition from our MIPS
microprocessor / IRIX operating system family of scalable servers to a family
of Intel and Linux based servers. This transition will involve our
supporting both product families indefinitely in order to provide flexibility
and support to our customers.
SUPERCOMPUTERS. The vector supercomputer market, in which our
Cray-branded products compete, has declined over the past few years, and we
believe that this decline represents a long-term trend. We have moved our
Cray activities into a separate business unit and are seeking partners to
assume the operation of this business.
All of these transitions are part of a long-term plan to return to growth and
sustained profitability. In the short term, however, the transitions have
created uncertainty among employees, customers and partners, which negatively
affected operations in the first quarter of fiscal 2000 and which we believe
will continue to have a negative effect in the second quarter. There can be
no assurance that we will manage these transitions in a way that will allow
us to recover from the disruptions experienced in the first quarter of fiscal
2000.
EXPENSE REDUCTION PROGRAM. During fiscal 1999, we reduced our operating
expenses by about $240 million from the level of fiscal 1998 operating
expenses. In August 1999, we announced and began to implement a restructuring
program aimed at bringing our expenses more in line with expected revenue
levels resulting from our refocused business operations and restoring
long-term profitability. As part of this effort, we expect, through the
anticipated transfer of businesses to partners, the elimination of positions
and managed hiring, to end fiscal 2000 with about 1/3 fewer employees than
was the case at the end of fiscal 1999. These steps, and generally tighter
operating expense controls, are part of an overall program to reduce our
expense structure by about $250 million from fiscal 1999 operating levels.
While our objective is to reduce our costs in ways that will not have a
material impact on revenue levels, there is no assurance that this will be
achieved.
DEPENDENCE ON PARTNERS AND SUPPLIERS. Our business has always involved close
collaboration with partners and suppliers. However, many elements of our
current business strategy, including the longer-term transition to the Intel
architecture and additional outsourcing of manufacturing, will increase our
dependence on Intel and other partners, and on our manufacturing partners and
other component suppliers. Our business could be adversely affected, for
example, if Intel fails to meet product release schedules, or if
unanticipated quality issues arise with products from suppliers.
EMPLOYEES. Our success depends on our ability to continue to attract, retain
and motivate highly qualified technical, marketing and management personnel,
who are in great demand. The uncertainties surrounding SGI's business
prospects have increased the challenges of retaining world-class talent and
we are currently experiencing higher rates of attrition, particularly in
Mountain View, California and in certain functions, including technical
personnel. We have initiated aggressive hiring and retention programs to
attract and retain key employees but there is no assurance that these
programs will offset our increased rates of attrition in the near term.
PRODUCT DEVELOPMENT AND INTRODUCTION. Our continued success depends on our
ability to develop and rapidly bring to market highly differentiated,
technologically complex and innovative products. Product transitions are a
recurring part of our business. A number of risks are inherent in this process.
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
-14-
<PAGE>
semiconductor and storage products and outsourced manufacturing partners. The
failure of any one of these elements could cause our new products to fail to
meet specifications or to miss the aggressive timetables that we establish.
There is no assurance that acceptance of our new systems will not be affected
by delays in this process. As described above, we are currently experiencing
increased employee attrition rates in certain geographies and functions. Our
ability to successfully attract and retain key technical, marketing and
management personnel in a competitive hiring environment has a direct impact
on our ability to maintain our product development timetables.
Short product life cycles place a premium on our ability to manage the
transition to new products. We often announce new products in the early part of
a quarter while the product is in the final stages of development, and seek to
manufacture and ship the product in volume during the same quarter. Our 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.
PERIOD TO PERIOD FLUCTUATIONS. Our 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 we plan our 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 SGI or our
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.
Our results have typically followed a seasonal pattern, with stronger
sequential growth in the second and fourth fiscal quarters, reflecting the
buying patterns of our customers. However, we expect this seasonality to be
offset in the second quarter of this fiscal year by customer uncertainty
regarding the effects of the year 2000 transition and our own company's
business transition.
Our 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 our
stock price. The stock price may also be affected by broader market trends
unrelated to our performance.
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 SGI as a
user of information systems in the operation of its business, and as a
supplier of computer systems and related software, including operating system
software, to customers.
We have completed an assessment of our core business information systems,
many of which are provided by outside suppliers, for year 2000 readiness as
well an assessment of a wide variety of other information systems and related
business processes used in our operations. Our mission critical applications
are believed to be year 2000 compliant, including the Oracle information
system which was recently upgraded to the most recent version.
We continue to implement our program to support customer efforts to achieve
year 2000 compliance. This program includes encouraging customers and
independent software vendors to adopt our most recently released IRIX 6.5
operating system, which we believe is year 2000 compliant, and additional
customer support procedures. We also have made available software upgrades
for some earlier releases of the IRIX operating system. We believe that the
hardware systems we expect to support beyond 1999, when running on compliant
operating systems, will be year 2000 compliant. Our older products may
require upgrade or replacement to become year 2000 compliant. We believe that
we generally are not legally responsible for costs incurred by customers to
achieve their year 2000 compliance. However, we may experience increasing
customer satisfaction costs relating to these issues over the next few years.
We have assessed the possible effect on our operations of the year 2000
readiness of critical suppliers of products and services. Our reliance on our
key suppliers, and therefore on the proper functioning of their information
systems and software, is
-15-
<PAGE>
increasing, and there can be no assurance that another company's failure to
address year 2000 issues could not have an adverse effect on us.
Certain of the costs associated with our 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 compliance will not be material. We believe that we are
unlikely to experience a material adverse impact on our financial condition
or results of operations due to year 2000 compliance issues. However, since
year 2000 complications are not fully known, and potential liability issues
are not clear, the full potential impact of the year 2000 on us is not known
at this time. The information regarding year 2000 issues provided in this
Quarterly Report on Form 10-Q is based on our current assessment of ongoing
activities and is subject to change as we continuously monitor these
activities. We are currently monitoring and implementing appropriate
contingency plans for potential year 2000 problems.
The Year 2000 disclosure set forth above is "year 2000 readiness disclosure" as
defined in the Year 2000 Information and Readiness Disclosure Act of 1998.
COMPETITION. The computer industry is highly competitive, with rapid
technological advances and constantly improving price/performance. Most of our
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 our revenue is
derived from sales to the U.S. government, either directly by us 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. A portion of our business requires security clearances from the
United States government. We have implemented measures to maintain our
clearances in light of the fact that Mr. Robert Bishop, who was appointed
Chief Executive Officer in the fall of 1999, is not a United States citizen.
However, these arrangements are subject to customer review and approval and
periodic review by the Defense Security Service of the Department of Defense.
Any disruption or limitation in our ability to do business with the United
States government could have an adverse impact on SGI.
EXPORT REGULATION. Our sales to foreign customers are subject to export
regulations. Sales of many of our 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 SGI's compliance with the export regulations in
connection with the sale of several computer systems to a customer in Russia
during fiscal 1997. We believe that these matters will be resolved without a
significant adverse effect on our business. However, there is no assurance
that these matters will not have an unforeseen outcome that could impair the
conduct of our business outside the United States.
Our 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 our products.
INTELLECTUAL PROPERTY. We routinely receive communications from third parties
asserting patent or other rights covering our products and technologies.
Based upon our evaluation, we may take no action or may seek to obtain a
license. In any given case there is a risk that a license will not be
available on terms that we consider reasonable, or that litigation will
ensue. We expect that, as the number of hardware and software patents issued
continues to increase, and as competition in the markets we address
intensifies, the volume of these intellectual property claims will also
increase.
BUSINESS DISRUPTION. Our corporate headquarters, including most of our research
and development operations are located in the Silicon Valley area of Northern
California, a region known for seismic activity. A significant earthquake could
materially affect operating results. We are not insured for most losses and
business interruptions of this kind.
MARKET RISK. In the normal course of business, our financial position 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. We regularly assesses these risks and have established policies
and business practices to protect against the adverse effects of these and
other potential exposures. As a result, we do not anticipate material losses
in these areas.
-16-
<PAGE>
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.
-17-
<PAGE>
PART II - OTHER INFORMATION
IITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) SGI held its Annual Meeting of Stockholders on October 27, 1999.
Proxies for the meeting were solicited pursuant to Regulation 14A.
(b) SGI's Board of Directors is divided into three classes, with directors
in each class serving for three-year terms. Accordingly, not all
Directors are elected at each Annual Meeting of Stockholders. Robert R.
Bishop, C. Richard Kramlich, Lucille Shapiro and Robert B. Shapiro were
re-elected as Directors at the meeting. The Directors whose terms of
office continued after the meeting are Robert A. Lutz and James A.
McDivitt. The Board adopted an amendment to the bylaws to reduce the
number of directors from seven to six effective August 23, 1999.
(c) The matters described below were voted on at the Annual Meeting of
Stockholders, and the number of votes cast with respect to each matter
and, with respect to the election of a director, were as indicated.
1. To elect two Class I Directors of SGI to serve for a
three-year term and to elect two Class III directors to serve
for a two-year term.
<TABLE>
<CAPTION>
<S> <C> <C> <C>
CLASS I DIRECTORS: CLASS III DIRECTORS:
C. RICHARD KRAMLICH: ROBERT R. BISHOP:
For: 159,536,318 Withheld: 2,755,948 For: 159,585,358 Withheld: 2,706,908
LUCILLE SHAPIRO, PH.D.: ROBERT B. SHAPIRO:
For: 159,374,814 Withheld: 2,917,452 For: 154,058,776 Withheld: 8,233,490
</TABLE>
2. To ratify the appointment of Ernst & Young LLP, as
independent auditors of SGI for the fiscal year ending
June 30, 2000.
<TABLE>
<CAPTION>
<S> <C> <C>
For: 161,339,716 Against: 486,800 Abstain: 465,750
</TABLE>
3. To consider and vote on a stockholder proposal concerning the
annual election of the entire Board of Directors.
<TABLE>
<CAPTION>
<S> <C> <C> <C>
For: 84,635,510 Against: 19,696,286 Abstain: 1,153,062 Non-vote: 56,807,408
</TABLE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.28 Master Termination Agreement between Virtual Funding, Limited
Partnership and the Company dated September 27, 1999.
27.1 Financial Data Schedule.
(b) Reports on Form 8-K.
None
-18-
<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: November 11, 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)
-19-
<PAGE>
SILICON GRAPHICS, INC.
INDEX TO EXHIBITS
-----------------
Exhibit Description
- ------- -----------
10.28 Master Termination Agreement between Virtual Funding,
Limited Partnership and the Company dated
September 27, 1999.
27.1 Financial Data Schedule
-20-
<PAGE>
Exhibit 10.28
MASTER TERMINATION AGREEMENT
----------------------------
MASTER TERMINATION AGREEMENT ("THIS AGREEMENT") dated as of September
27, 1999 among VIRTUAL FUNDING, LIMITED PARTNERSHIP ("VIRTUAL FUNDING"),
VESEY PARTNERS, LIMITED PARTNERSHIP ("VESEY PARTNERS"), ML LEASING EQUIPMENT
CORP. ("MERRILL LEASING"), MERRILL LYNCH & CO., INC., ("MERRILL LYNCH"),
SILICON GRAPHICS REAL ESTATE, INC. (the "LESSEE"), SILICON GRAPHICS, INC., as
Guarantor ("SGI"), THE DAI-ICHI KANGYO BANK, LTD., NEW YORK BRANCH ("DKB"),
in its individual capacity, as issuer of the letter of credit (in such
capacity, the "L/C Bank"), as Collateral Agent and as Agent (in such
capacity, the "Agent") for THE SUMITOMO BANK, LTD. ("SUMITOMO"), UBS AG,
Stamford Branch, (formerly Swiss Bank Corporation, San Francisco Branch)
("UBS"), BANK OF AMERICA, N.A., (formerly Bank of America National Trust and
Savings Association) ("BANK OF AMERICA"), THE FUJI BANK, LIMITED, ("FUJI
BANK"), and ROYAL BANK OF CANADA ("ROYAL BANK" and together with DKB,
Sumitomo, UBS, Bank of America, and Fuji Bank, the "BANKS").
W I T N E S S E T H
WHEREAS, Virtual Funding, DKB, as L/C Bank and Agent, and the Banks
entered into a certain Credit Agreement, dated as of November 18, 1993, as
amended (the "CREDIT AGREEMENT");
WHEREAS, in connection with the Credit Agreement, the following
agreements, documents and instruments, among others, were executed and
delivered: (i) a certain Lease Agreement, dated as of November 18, 1993, as
amended (the "LEASE AGREEMENT"), between Virtual Funding and Lessee; (ii) a
certain Agreement for Lease, dated as of November 18, 1993, as amended (the
"AGREEMENT FOR LEASE"), between Virtual Funding and Lessee; (iii) a certain
Revolving Credit Note, dated as of March 17, 1995, made by Virtual Funding to
the order of DKB, (iv) a certain Revolving Credit Note, dated March 17, 1995,
made by Virtual Funding to the order of Sumitomo, (v) a certain Revolving
Credit Note, dated March 17, 1995, made by Virtual Funding to the order of
UBS, (vi) a certain Revolving Credit Note, dated March 17, 1995, made by
Virtual Funding to the order of Bank of America; (vii) a certain Revolving
Credit Note, dated March 17, 1995, made by Virtual Funding to the order of
Fuji Bank; (viii) a certain Revolving Credit Note, dated as of March 17,
1995, made by Virtual Funding to the order of Royal Bank; (ix) a certain
Security Agreement, dated as of November 18, 1993, (the "SECURITY
AGREEMENT"), between Virtual Funding and DKB, as Collateral Agent; (x) a
certain Lessee's Consent to Security Agreement, dated as of November 18, 1993
(the "LESSEE'S CONSENT"), among Lessee, DKB, as Collateral Agent, and Virtual
Funding; (xi) a certain Guaranty, dated as of November 18, 1993 (the
"GUARANTY") from SGI to Virtual Funding; (xii) a certain Guarantor's Consent,
dated as of November 18, 1993 (the "GUARANTOR'S CONSENT"), among SGI, DKB, as
Collateral Agent, and Virtual Funding; (xiii) a certain Management Agreement,
dated as of November 18, 1993 (the "MANAGEMENT AGREEMENT"), between Virtual
Funding and Merrill Leasing; (xiv) a certain Fee Agreement, dated November
18, 1993 (the "FEE AGREEMENT"), between Virtual Funding and DKB; (xv) a
certain Shortfall Agreement, dated March 15, 1995 (the "SHORTFALL
AGREEMENT"), between Merrill Leasing and DKB, as Collateral Agent; (xvi) a
certain Letter Agreement, dated March 15, 1995 (the "LETTER AGREEMENT"),
between Merrill
<PAGE>
Lynch and DKB, as Collateral Agent; (xvii) a certain Ground Lease Agreement,
dated as of [November 18, 1993] (the "GROUND LEASE"), between Virtual Funding
and Lessee; (xviii) a certain Ground Sublease Agreement, dated as of March
15, 1995 (the "SUBLEASE"), between Virtual Funding and Lessee; and (xix) a
certain Interest Rate Agreement, dated as of July 1, 1996, (the "INTEREST
RATE AGREEMENT"), between Virtual Funding and Lessee ( collectively the
INTEREST RATE AGREEMENT, SUBLEASE, GROUND LEASE, LETTER AGREEMENT, SHORTFALL
AGREEMENT, FEE AGREEMENT, MANAGEMENT AGREEMENT, GUARANTOR'S CONSENT,
GUARANTY, LESSEE'S CONSENT, SECURITY AGREEMENT, AGREEMENT FOR LEASE, LEASE
AGREEMENT and CREDIT AGREEMENT are herein referred to as the "Facility No. 1
Documents");
WHEREAS, Vesey Partners, DKB, as agent and the banks parties thereto
entered into a certain Loan Agreement, dated as of November 18, 1993, as
amended (the "LOAN AGREEMENT");
WHEREAS, in connection with the Loan Agreement, the following
agreements, documents and instruments, among others, were executed and
delivered: (i) a certain Facility #2 Security Agreement, dated as of
November 18, 1993, (the "FACILITY #2 SECURITY AGREEMENT"), between Vesey
Partners and DKB, as Collateral Agent; (ii) a certain Note, dated March 15,
1995, made by Vesey Partners to the order of DKB; (iii) a certain Notice of
Pledge, dated November 18, 1993, (the "NOTICE OF PLEDGE"), between Vesey
Partners and Virtual Funding; and (iv) a certain Fee Agreement, dated
November 18, 1993, (the "FACILITY #2 FEE AGREEMENT"), between Vesey Partners
and DKB (collectively the FACILITY #2 FEE AGREEMENT, NOTICE OF PLEDGE,
FACILITY #2 SECURITY AGREEMENT and LOAN AGREEMENT are herein referred to as
the "Facility No. 2 Documents");
WHEREAS, the parties hereto desire to terminate the Facility No. 1
Documents and the Facility No. 2 Documents;
NOW, THEREFORE, in consideration of the agreements set forth below, and
other good and valuable consideration, the receipt and adequacy of which are
hereby acknowledged, the parties hereto hereby agree as follows:
1. CAPITALIZED TERMS. Capitalized terms used but not defined herein
shall have the respective meanings given to them in the Credit Agreement or
Lease Agreement, as the case may be.
2. TERMINATION OF THE DOCUMENTS. Each of the parties hereto agrees
that (i) except with respect to those provisions which expressly survive the
termination of the Facility No. 1 Documents and Facility No. 2 Documents, the
Facility No. 1 Documents and Facility No. 2 Documents to which it is a party
are hereby terminated, such termination to be effective as of the date
hereof, (ii) any requirement for notice (whether written or oral) with
respect to the termination of any of the Facility No. 1 Documents and
Facility No. 2 Documents is hereby waived by the respective parties to the
Facility No. 1 Documents and Facility No. 2 Documents and (iii) any other
requirement or condition precedent to the termination of any of the Facility
No. 1 Documents and Facility No. 2 Documents is hereby waived or shall be
deemed to have been satisfied, as the case may be.
-2-
<PAGE>
3. TERMINATION OF SECURITY; DELIVERY OF INSTRUMENTS. (i) DKB hereby
agrees with Virtual Funding and Vesey Partners to deliver to Virtual Funding
and Vesey Partners for the benefit of SGI and the Lessee on the date hereof
executed UCC-3 termination statements and such other instruments and
documents that Virtual Funding, Vesey Partners, SGI or the Lessee may
reasonably request in order to evidence the termination of DKB's security
interest in the property of Virtual Funding, Vesey Partners, SGI and the
Lessee. DKB further agrees to take, at the sole cost and expense of the
party requesting same, all action that Virtual Funding, Vesey Partners, SGI
or the Lessee may reasonably request to notify the Banks that DKB's security
interest in such collateral has been terminated, and (ii) Virtual Funding
hereby agrees to deliver to the Lessee two quitclaim deeds, each conveying
Virtual Funding's interest in and to real property and improvements
comprising the Parcels of Property and Units of Equipment (in each case as
defined in the Lease Agreement.).
4. TERMINATION OF CREDIT AGREEMENT AND SURRENDER OF THE NOTES. Upon
payment to the Banks of an aggregate amount equal to one hundred twenty
million eight hundred fifty-nine thousand dollars ($120,859,000.00), which
aggregate amount shall constitute payment in full of all Indebtedness (as
defined in the Credit Agreement) owing by Virtual Funding to the Banks under
the Credit Agreement, (i) DKB hereby agrees to surrender to Virtual Funding
the Revolving Credit Note, dated March 17, 1995, from Virtual Funding to DKB
in the principal amount of twenty-three million five hundred thousand dollars
($23,500,000), (ii) Sumitomo hereby agrees to surrender to Virtual Funding
the Revolving Credit Note, dated March 17, 1995, from Virtual Funding to
Sumitomo in the principal amount of twenty million dollars ($20,000,000),
(iii) UBS hereby agrees to surrender to Virtual Funding the Revolving Credit
Note, dated March 17, 1995, from Virtual Funding to Swiss Bank in the
principal amount of twenty million dollars ($20,000,000), (iv) Bank of
America hereby agrees to surrender to Virtual Funding the Revolving Credit
Note, dated March 17, 1995, from Virtual Funding to Bank of America in the
principal amount of twenty million dollars ($20,000,000), (v) Fuji Bank
hereby agrees to surrender to Virtual Funding the Revolving Credit Note,
dated as of March 17, 1995, from Virtual Funding to Fuji Bank in the
principal amount of twenty million dollars ($20,000,000), (vi) Royal Bank
hereby agrees to surrender to Virtual Funding the Revolving Credit Note,
dated March 17, 1995, from Virtual Funding to Royal Bank in the principal
amount of twenty million dollars ($20,000,000), and (vii) each of DKB,
Sumitomo, UBS, Bank of America, Fuji Bank and Royal Bank hereby agrees to
deliver, at Virtual Funding's sole cost and expense such other instruments
and documents that Virtual Funding may reasonably request in order to
evidence the termination of the Credit Agreement, promptly upon Virtual
Funding's request therefor.
5. TERMINATION OF LOAN AGREEMENT AND SURRENDER OF NOTE. Upon payment
to DKB of an aggregate amount equal to one million one hundred two thousand
seven hundred twenty-five dollars ($1,102,725.00), which aggregate amount
shall constitute payment in full of all Indebtedness (as defined in the Loan
Agreement) owing by Vesey Partners to DKB under the Loan Agreement, (i) DKB
hereby agrees to surrender to Vesey Partners for the benefit of SGI and the
Lessee the Note, dated March 15, 1995 from Vesey Partners to DKB in the
principal amount of one million one hundred seven thousand six hundred eighty
dollars ($1,107,680), and (ii) DKB hereby agrees to deliver, at Vesey
Partners' sole cost and expense such other instruments and documents that
Vesey Partners may reasonably request in order to evidence the termination of
the Loan Agreement, promptly upon Vesey Partners' request therefor.
-3-
<PAGE>
6. GUARANTY. SGI, as Guarantor, agrees that it shall remain liable
under the Guaranty entered into with respect to its guaranty of any and all
agreements and indemnities surviving under the Lease Agreement and the
Agreement for Lease.
7. COUNTERPARTS. This Agreement may be executed in any number of
counterparts and by different parties hereto on separate counterparts, each
of which counterparts, when executed and delivered, shall be deemed an
original and all of which counterparts, taken together, shall constitute one
and the same Agreement.
8. GOVERNING LAW. THIS AGREEMENT SHALL BE GOVERNED BY AND CONSTRUED IN
ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK.
[The remainder of the page intentionally left blank]
-4-
<PAGE>
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to
be duly executed on the date first above written.
VIRTUAL FUNDING, VESEY PARTNERS,
LIMITED PARTNERSHIP, LIMITED PARTNERSHIP,
By: Virtual Capital, Inc., its general By: Vesey Capital, Inc., its
partner general partner
By:__________________________ By: _______________________
Name: Name:
Title: Title:
MERRILL LYNCH & CO., INC. ML LEASING EQUIPMENT CORP.
By: ___________________________ By: ____________________________
Name: Name:
Title: Title:
SILICON GRAPHICS REAL ESTATE, SILICON GRAPHICS, INC.
INC.
By: ___________________________ By: ____________________________
Name: Name:
Title: Title:
THE DAI-ICHI KANGYO BANK, THE DAI-ICHI KANGYO BANK,
LTD., NEW YORK BRANCH, as LTD., NEW YORK BRANCH, as
Agent and Collateral Agent under Agent and Collateral Agent under
the Facility No. 1 Documents the Facility No. 2 Documents
By: ___________________________ By: ____________________________
Name: Name:
Title: Title:
-5-
<PAGE>
THE DAI-ICHI KANGYO BANK, THE DAI-ICHI KANGYO BANK,
LTD., NEW YORK BRANCH, as LTD., NEW YORK BRANCH, as
a Bank under the Facility No. 1 a Bank under the Facility No. 2
Documents Documents
By: ___________________________ By: ___________________________
Name: Name:
Title: Title:
THE DAI-ICHI KANGYO BANK, THE SUMITOMO BANK, LTD.
LTD., NEW YORK BRANCH, as
L/C Bank
By: ___________________________ By: ___________________________
Name: Name:
Title: Title:
UBS AG, BANK OF AMERICA, N.A.
STAMFORD BRANCH
By: ___________________________ By: ____________________________
Name: Name:
Title: Title:
THE FUJI BANK, LIMITED ROYAL BANK OF CANADA
By: ___________________________ By: ____________________________
Name: Name:
Title: Title:
-6-
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET, CONSOLIDATED STATEMENT OF OPERATIONS AND THE
CONSOLIDATED STATEMENT OF CASH FLOWS INCLUDED IN THE COMPANY'S FORM 10-Q FOR THE
PERIOD ENDING SEPTEMBER 30, 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> 3-MOS
<FISCAL-YEAR-END> JUN-30-2000
<PERIOD-START> JUL-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 391,896
<SECURITIES> 146,745
<RECEIVABLES> 425,155
<ALLOWANCES> 14,174
<INVENTORY> 201,022
<CURRENT-ASSETS> 1,527,152
<PP&E> 1,095,087
<DEPRECIATION> 630,744
<TOTAL-ASSETS> 2,656,576
<CURRENT-LIABILITIES> 1,055,142
<BONDS> 360,643
0
16,998
<COMMON> 171
<OTHER-SE> 1,195,849
<TOTAL-LIABILITY-AND-EQUITY> 2,656,576
<SALES> 425,001
<TOTAL-REVENUES> 585,203
<CGS> 312,178
<TOTAL-COSTS> 441,263
<OTHER-EXPENSES> 229,888
<LOSS-PROVISION> 1,691
<INTEREST-EXPENSE> 5,091
<INCOME-PRETAX> (318,327)
<INCOME-TAX> 105,426
<INCOME-CONTINUING> (212,901)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (212,901)
<EPS-BASIC> (1.17)
<EPS-DILUTED> (1.17)
</TABLE>
