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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1998
COMMISSION FILE NUMBER: 0-19512
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READ-RITE CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C>
DELAWARE 94-2770690
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
</TABLE>
345 LOS COCHES STREET, MILPITAS, CALIFORNIA 95035
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICERS) (ZIP CODE)
(408) 262-6700
(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 [ ]
On January 29, 1999, 49,169,063 shares of the registrant's common stock
were issued and outstanding.
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INDEX
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PAGE NO.
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Condensed Statements of Operations -- Three
Months Ended December 31, 1998 and 1997................... 2
Consolidated Condensed Balance Sheets -- December 31, 1998
and September 30, 1998.................................... 3
Consolidated Condensed Statements of Cash Flows -- Three
Months Ended December 31, 1998 and 1997................... 4
Notes to Consolidated Condensed Financial Statements........ 5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 9
PART II. OTHER INFORMATION
Item 1. Legal Proceedings........................................... 20
Item 6. Exhibits and Reports on Form 8-K............................ 22
Signature................................................... 22
Exhibit 27.1 -- Financial Data Schedule.....................
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
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<CAPTION>
THREE MONTHS ENDED
DECEMBER 31,
---------------------
1998 1997
-------- ---------
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Net sales................................................... $230,188 $ 261,371
Cost of sales............................................... 195,327 347,138
-------- ---------
GROSS MARGIN.............................................. 34,861 (85,767)
Research and development.................................... 23,732 21,731
Selling, general and administrative......................... 7,289 9,496
-------- ---------
Total operating expenses.................................. 31,021 31,227
-------- ---------
OPERATING INCOME (LOSS)................................... 3,840 (116,994)
Interest expense............................................ 7,368 7,299
Interest income and other, net.............................. (1,048) 450
-------- ---------
Loss before provision (benefit) for income taxes and
minority interest...................................... (4,576) (123,843)
Provision (benefit) for income taxes........................ 48 (24,769)
-------- ---------
Loss before minority interest............................. (4,624) (99,074)
Minority interest in net loss of consolidated subsidiary.... (5,746) (8,145)
-------- ---------
NET INCOME (LOSS)......................................... $ 1,122 $ (90,929)
======== =========
Earnings (loss) per share:
Basic..................................................... $ 0.02 $ (1.88)
Diluted................................................... $ 0.02 $ (1.88)
Shares used in per share computations:
Basic..................................................... 49,027 48,286
Diluted................................................... 50,671 48,286
</TABLE>
See accompanying notes to the consolidated condensed financial statements.
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CONSOLIDATED CONDENSED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
ASSETS
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1998 1998(A)
------------ -------------
(UNAUDITED)
<S> <C> <C>
Cash and cash equivalents................................... $ 62,826 $ 62,444
Short-term investments...................................... 45,860 46,038
Accounts receivable, net.................................... 146,867 110,337
Inventories................................................. 62,740 52,367
Prepaid expenses and other current assets................... 9,033 10,061
---------- ----------
Total current assets.............................. 327,326 281,247
Property, plant and equipment............................... 1,269,209 1,250,055
Less: Accumulated depreciation.............................. 718,368 676,422
---------- ----------
Property, plant and equipment, net........................ 550,841 573,633
Intangible and other assets................................. 19,536 24,920
---------- ----------
TOTAL ASSETS...................................... $ 897,703 $ 879,800
========== ==========
LIABILITIES, MINORITY INTEREST IN CONSOLIDATED
SUBSIDIARY AND STOCKHOLDERS' EQUITY
Short-term borrowing........................................ $ 16,889 $ 7,399
Accounts payable............................................ 100,734 89,857
Accrued compensation and benefits........................... 26,795 28,943
Other accrued liabilities................................... 45,049 42,365
Current portion of long-term debt and capital lease
obligations............................................... 16,882 15,065
---------- ----------
Total current liabilities......................... 206,349 183,629
Convertible subordinated notes.............................. 345,000 345,000
Other long-term debt and capital lease obligations.......... 40,543 43,248
Other long-term liabilities................................. 32,052 31,978
---------- ----------
Total liabilities................................. 623,944 603,855
---------- ----------
Minority interest in consolidated subsidiary................ 36,270 42,016
Preferred stock, $0.0001 par value.......................... -- --
Common stock, $0.0001 par value............................. 5 5
Additional paid-in capital.................................. 365,620 363,176
Accumulated deficit......................................... (127,471) (128,593)
Accumulated other comprehensive loss........................ (665) (659)
---------- ----------
Total stockholders' equity........................ 237,489 233,929
---------- ----------
TOTAL LIABILITIES, MINORITY INTEREST IN
CONSOLIDATED SUBSIDIARY AND STOCKHOLDERS'
EQUITY.......................................... $ 897,703 $ 879,800
========== ==========
</TABLE>
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(a) The information in this column was derived from the Company's audited
consolidated balance sheet included on Form 10-K as of September 30, 1998.
See accompanying notes to the consolidated condensed financial statements.
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CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
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<CAPTION>
THREE MONTHS ENDED
DECEMBER 31,
---------------------
1998 1997
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OPERATING ACTIVITIES
Net income (loss)........................................... $ 1,122 $(90,929)
Adjustments required to reconcile net income (loss) to cash
provided by operations:
Depreciation and amortization............................. 44,578 105,525
Minority interest in net income (loss) of consolidated
subsidiary............................................. (5,746) (8,145)
Other, net................................................ 29 (25,489)
Changes in assets and liabilities:
Accounts receivable....................................... (36,530) 46,864
Inventories............................................... (10,373) 10,056
Prepaid expenses and other current assets................. 1,028 (2,646)
Accounts payable and accrued liabilities.................. 10,999 (29,508)
--------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES................. 5,107 5,728
--------- --------
INVESTING ACTIVITIES
Capital expenditures........................................ (20,581) (67,066)
Maturities of available-for-sale investments................ 163,838 111,971
Purchase of available-for-sale investments.................. (163,666) (78,540)
Other assets and liabilities, net........................... 4,638 (11,889)
--------- --------
NET CASH USED IN INVESTING ACTIVITIES..................... (15,771) (45,524)
--------- --------
FINANCING ACTIVITIES
Payment of other long-term debt and capital lease
obligations............................................... (888) (349)
Proceeds from short-term borrowing.......................... 9,490 --
Proceeds from issuance of common stock...................... 2,444 3,014
--------- --------
NET CASH PROVIDED BY FINANCING ACTIVITIES................. 11,046 2,665
--------- --------
Net increase (decrease) in cash and cash equivalents........ 382 (37,131)
Cash and cash equivalents at beginning of period............ 62,444 118,589
--------- --------
Cash and cash equivalents at end of period.................. $ 62,826 $ 81,458
========= ========
Supplemental disclosures of non-cash activities:
Issuance of common stock under 401(k) plan................ $ -- $ 298
</TABLE>
See accompanying notes to the consolidated condensed financial statements.
4
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NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. GENERAL
Read-Rite Corporation ("Read-Rite" or the "Company") maintains a
fifty-two/fifty-three week fiscal year cycle ending on the Sunday closest to
September 30. The first quarters of fiscal 1999 and 1998 ended on December 27,
1998, and December 28, 1997, respectively. To conform to the Company's fiscal
year ends, the Company must add a fifty-third week to every sixth or seventh
fiscal year; however, both fiscal 1999 and fiscal 1998 are 52-week years. For
convenience, the accompanying financial statements have been shown as ending on
the last day of the calendar month.
In the opinion of management, all adjustments (including all normal
recurring adjustments) considered necessary for a fair presentation of the
interim periods presented have been included. The three month period ended
December 31, 1997, included a special charge to cost of sales of $114.8 million,
primarily for the write-off of equipment and inventory associated with the
phase-out of advanced inductive technologies. The interim results are not
necessarily indicative of the operating results expected for the full fiscal
year ending September 30, 1999. The accompanying unaudited financial statements
should be read in conjunction with the Company's audited financial statements
included in its 1998 Annual Report on Form 10-K.
NOTE 2. INVENTORIES
Inventories consisted of the following at (in thousands):
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DECEMBER 31, SEPTEMBER 30,
1998 1998
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Raw material............................................... $ 9,265 $ 8,653
Work-in-process............................................ 37,864 39,516
Finished goods............................................. 15,611 4,198
------- -------
Total inventories................................ $62,740 $52,367
======= =======
</TABLE>
NOTE 3. CALCULATION OF EARNINGS PER SHARE
The basic earnings per share is computed using the weighted average number
of common shares outstanding during the period. Diluted earnings per share is
computed using the weighted average number of common and dilutive common
equivalent shares outstanding during the period. Dilutive common equivalent
shares consist of employee stock options and incremental common shares
attributable to the assumed conversion of the Company's convertible subordinated
debentures, unless they are antidilutive.
For the period in which the Company had a net loss, the basic and diluted
net loss per share was computed using only the weighted average number of shares
of common stock outstanding during the period.
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NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The following table presents the calculation of basic and diluted earnings
per share:
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THREE MONTHS ENDED
DECEMBER 31,
-------------------------
1998 1997
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IN THOUSANDS, EXCEPT PER
SHARE DATA
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BASIC NET INCOME (LOSS) PER SHARE COMPUTATION
Numerator:
Net income (loss)......................................... $ 1,122 $(90,929)
------- --------
Denominator:
Weighted average number of common shares outstanding
during the period...................................... 49,027 48,286
------- --------
Basic net income (loss) per share........................... $ 0.02 $ (1.88)
======= ========
DILUTED NET INCOME (LOSS) PER SHARE COMPUTATION
Numerator:
Net income (loss)......................................... $ 1,122 $(90,929)
------- --------
Denominator:
Weighted average number of common shares outstanding
during the period...................................... 49,027 48,286
Incremental common shares issuable under stock option
plans after applying treasury stock method, net of tax
benefit................................................ 1,644 --
------- --------
Total....................................................... 50,671 48,286
------- --------
Diluted net income (loss) per share......................... $ 0.02 $ (1.88)
======= ========
</TABLE>
Incremental common shares attributable to the assumed conversion of the
Company's convertible subordinated debentures of 8.6 million shares for the
three months ended December 31, 1998, were not included in the diluted earnings
per share computation because the effect would be antidilutive.
NOTE 4. CUSTOMER CONCENTRATION
The Company's three largest customers accounted for 89% of net sales during
the three month period ended December 31, 1998. Given the small number of disk
drive and tape drive manufacturers who require an independent source of
recording head supply, the Company will continue to be dependent upon a limited
number of customers. The loss of any large customer, or a significant decrease
in sales orders from one or more large customers, has had and will continue to
have a material adverse effect on the Company's business, financial condition,
and results of operations.
NOTE 5. RESTRUCTURING COSTS
During fiscal year 1998, the Company incurred restructuring costs of $93.7
million. The restructuring costs reflect the Company's strategy to align
worldwide operations with market conditions and to improve the productivity of
the Company's manufacturing facilities. The restructuring costs were primarily
associated with the Company's decision to cease its manufacturing operations in
Malaysia and the write-off of excess equipment at the Company's other
manufacturing locations. The restructuring activity was substantially complete
as of December 31, 1998.
NOTE 6. COMPREHENSIVE INCOME (LOSS)
The Company has adopted Statement of Financial Accounting Standards
("SFAS") No. 130, "Reporting Comprehensive Income," as of the beginning of the
three month period ending December 31, 1998. SFAS
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NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
No. 130 establishes new rules for the reporting and display of comprehensive
income and its components, however, it has no impact on the Company's net income
or total stockholders' equity.
The components of comprehensive income (loss), net of related tax, are as
follows (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
---------------------------
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Net income (loss)........................................... $1,122 $(90,929)
Change in unrealized gain (loss) on available-for-sale
investments............................................... (6) (1,017)
------ --------
Comprehensive income (loss)................................. $1,116 $(91,946)
====== ========
</TABLE>
Accumulated other comprehensive income (loss) presented in the accompanying
consolidated condensed balance sheets consists of the accumulated net unrealized
gain on available-for-sale investments and the foreign currency translation
adjustments.
NOTE 7. LEGAL PROCEEDINGS
In December 1996, a purported class action complaint was filed in the
Superior Court of the State of California, Santa Clara County, by Joan D.
Ferrari and Mark S. Goldman against the Company and certain of its officers and
directors (the "Ferrari State Action"). The complaint in the Ferrari State
Action alleges that during a purported class period of April 19, 1995 -- January
22, 1996, defendants made materially false and misleading statements concerning
the Company's business condition and prospects, in violation of the California
Corporations Law, the California Civil Code (those sections prohibiting fraud),
and the California Business and Professions Code. The plaintiffs in the Ferrari
State Action seek damages of an unspecified amount. In May 1997, the Superior
Court entered an order (1) sustaining the demurrers of certain defendants to the
California Corporations Code cause of action and overruling the demurrers of
Read-Rite Corporation and certain other defendants to that same cause of action;
and (2) sustaining the demurrers of all defendants as to the remaining causes of
action.
In January 1997, a purported class action complaint was filed in the United
States District Court for the Northern District of California by Ferrari and
Goldman against the Company and certain of its officers and directors (the
"Ferrari Federal Action"). The Ferrari Federal Action contains virtually
identical factual allegations as the Ferrari State Action, and alleges
violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934
and SEC Rule 10b-5. The plaintiffs in the Ferrari Federal Action also seek
damages of an unspecified amount.
In January 1997, a purported class action complaint was filed in the United
States District Court for the Northern District of California by Edward McDaid
against the Company and certain of its officers and directors (the "McDaid
Federal Action"). The McDaid Federal Action alleges that defendants made false
and misleading statements about the Company's business condition and prospects
during a purported class period of July 19, 1995 -- June 19, 1996, and alleges
violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934
and SEC Rule 10b-5. The plaintiffs in the McDaid Federal Action seek damages of
an unspecified amount. The Ferrari Federal Action and the McDaid Federal Action
were consolidated into one action by the court, in the Read-Rite Corp.
Securities Litigation (the "Consolidated Action").
In May 1997, a purported class action complaint was filed in the United
States District Court for the Northern District of California by James C. Nevius
and William Molair against the Company and certain of its officers and directors
(the "Nevius Federal Action"). The Nevius Federal Action alleges that defendants
made false and misleading statements about the Company's business condition and
prospects during a purported class period of March 2, 1996 -- June 19, 1996, and
alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of
1934 and SEC Rule 10b-5. The plaintiffs in the Nevius Federal Action seek
damages of an unspecified amount. Plaintiffs in the McDaid Federal Action moved
in June 1997 to dismiss
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NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
their complaint. This motion was granted by the court. In June 1997, defendants
successfully moved to consolidate the Nevius Federal Action with the
Consolidated Action.
In August 1998, the court in the Consolidated Action granted defendants
motion to dismiss but granted plaintiffs leave to file an amended complaint. In
January 1999, plaintiffs filed their amended complaint.
There has been no discovery to date in the federal actions and no trial is
scheduled in any of these actions. The Company believes it has meritorious
defenses to all three of these actions (the Ferrari State Action and the Ferrari
and Nevius Federal actions), and intends to defend each of them vigorously.
The Company believes that the Company and the individual defendants have
meritorious defenses in the above-described actions. Accordingly, both on its
own behalf and pursuant to indemnification agreements between the Company and
the named individual defendants, the Company intends to continue to defend each
of these actions vigorously. Failure by the Company to obtain a favorable
resolution of the claims set forth in any of these actions could have a material
adverse effect on the Company's business, results of operations and financial
condition. Currently, the amount of such material adverse effect cannot be
reasonably estimated.
Except as so noted, the Company is not a party, nor is its property
subject, to any material pending legal proceedings other than ordinary routine
litigation incidental to the Company's business. The Company does not believe
such routine litigation, taken individually or in the aggregate, will have a
material adverse effect on the Company's business, financial condition or
results of operations.
8
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD LOOKING INFORMATION
Certain statements in this Management's Discussion and Analysis of
Financial Condition and Results of Operations include forward-looking
information within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and
are subject to the "safe harbor" created by those sections. These statements
include, but are not limited to, the Company's expectation that the trend
towards fewer heads per disk drive and competitive pricing pressure will
continue through fiscal 1999; the Company's expectation that MR products will
account for a majority of net sales during fiscal 1999; the Company's
expectation that manufacturing cycle time will be further reduced in fiscal
1999; the Company's expectation that selling, general and administrative
expenses will not increase significantly in absolute dollars in the near-term;
the Company's plan to spend between approximately $130 million and $140 million
on capital expenditures during Fiscal 1999, however, certain assets may be
acquired through operating leases; the Company's belief that its liquid assets,
credit facilities and cash expected to be generated from operations will be
sufficient to fund its operations for the next twelve months; the Company's plan
to have its critical internal systems be Year 2000 compliant by October 1, 1999,
the first day of the Company's fiscal year 2000, and the Company's belief that
the Company and the individual defendants in the purported class actions
(collectively, the "Actions") described in Part II, Item 1 "Legal Proceedings,"
have meritorious defenses in such Actions. Actual results for future periods
could differ materially from those projected in such forward-looking statements.
Some factors which could cause future actual results to materially differ
from the Company's recent results or those projected in the forward-looking
statements include, but are not limited to: failure by the Company to timely,
effectively and continuously execute on magnetoresistive ("MR") and Giant MR
("GMR") product development; failure to effectively transfer headstack
assemblies ("HSAs") operations from Thailand to the Philippines; failure to
obtain necessary customer qualifications on new programs; failure to timely and
cost-effectively introduce those programs into manufacturing, and failure to
achieve and maintain acceptable production yields on those programs;
introduction of competitors' products more quickly or cost effective than the
Company; constraints on supplies of raw materials or components limiting the
Company's ability to maintain or increase production; significant increases or
decreases in demand for the Company's products, cancellation or rescheduling of
customer orders, changes to the Company's product mix, and changes in business
conditions affecting the Company's financial position or results of operations
which significantly increase the Company's working capital needs; the Company's
inability to obtain or generate sufficient capital to fund its research and
development expenses and other working capital needs; or failure by the Company
to obtain favorable resolution of the claims set forth in the Actions. For a
more detailed discussion of certain risks associated with the Company's
business, see "Certain Additional Business Risks." The Company undertakes no
obligation to update forward-looking statements to reflect events or
circumstances occurring after the date of such statements.
RESULTS OF OPERATIONS
NET SALES
Net sales were $230.2 million for the three month period ended December 31,
1998, compared to net sales of $261.4 million for the comparable period in
fiscal 1998. Net sales for the first quarter of fiscal 1999 were adversely
impacted by competitive pricing pressures in the MR merchant market; the disk
drive industry's trend towards fewer suppliers of recording heads on each
program; and an industry-wide trend towards a reduction in the number of heads
per disk drive.
The decrease in the Company's net sales for the first quarter of fiscal
1999 compared to the comparable period in fiscal 1998 was primarily attributable
to a substantial decrease in average selling price ("ASP") for HGAs and HSAs.
ASP decreased approximately 14.0% for HGAs and approximately 18.0% for HSAs,
compared to the comparable three month period in fiscal 1998. HGA and HSA
pricing was lower due to competitive pricing pressure in the disk drive industry
and components industry. Further, the number of HGAs per HSAs decreased 7.0% in
the current three month period compared to the comparable three month
9
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period in fiscal 1998. The Company expects the trend towards fewer heads per
disk drive and competitive pricing pressure to continue through fiscal 1999.
For the three month period ended December 31, 1998, a substantial majority
of the Company's net sales were derived from MR products which is consistent
with the Company's strategy to transition its production to MR recording heads
in fiscal 1998. Net sales generated from MR products (including Tape Head)
increased to $217.6 million for the three month period ended December 31, 1998,
from net sales of $120.2 million for the comparable period in fiscal 1998. The
Company's largest volume MR product platform for the three month period ended
December 31, 1998, consisted of recording heads for 3.4 Gigabyte ("GB") per
3.5-inch disk applications. This increase in net sales of MR products was more
than offset, however, by the decrease in net sales of inductive products. Net
sales generated from inductive products decreased to $12.5 million for the three
month period ended December 31, 1998, from net sales of $141.2 million for the
comparable period in fiscal 1998. The Company expects that MR products will
account for a majority of net sales during fiscal 1999.
Read-Rite shipped 22.7 million and 22.4 million recording heads (including
recording heads shipped in HSAs and Tape Head), and 4.3 million and 4.1 million
HSAs, for the three month periods ended December 31, 1998, and December 31,
1997, respectively. This represents an increase from the three month period
ended September 30, 1998, of shipments of 15.6 million recording heads
(including heads shipped in HSAs and Tape Head products) and 3.6 million HSAs.
The Company's product mix continued to be predominately made up of HSAs, as net
sales of HSAs accounted for 77% of total net sales for the three month period
ended December 31, 1998, compared to 81% of total net sales for the comparable
period in fiscal 1998.
The Company's three largest customers accounted for 89% of net sales for
the three month period ended December 31, 1998, compared to 81% of net sales for
the comparable period in fiscal 1998. For a discussion of certain risks
associated with the Company's business, see "Certain Additional Business Risks."
GROSS MARGIN
The Company's gross margin is primarily influenced by average unit sales
prices, the level of unit sales in relation to fixed costs, manufacturing
yields, product mix (newer products and HGAs typically generate a higher gross
margin than older products and HSAs) and material costs. The relative impact of
each of these factors fluctuates from time to time. Periodically, the Company's
gross margin also reflects charges for inventory and fixed asset obsolescence
related to products or technologies that have reached their end of life. For
example, the Company incurred a special charge to cost of sales of $114.8
million during the three month period ended December 31, 1997, primarily for the
write-off of equipment and inventory associated with the phase-out of advanced
inductive technologies.
HSAs typically have a lower gross margin than HGAs. HSAs typically consist
of two or more HGAs and a variety of purchased components which the Company
assembles into a single unit. The cost of the purchased components comprises a
significant percentage of the total cost of the HSA. The gross margin on such
purchased components is substantially lower than the gross margin on HGAs
produced by the Company. The combination of the respective gross margin on HGAs
and non-HGA components and associated labor and overhead included in HSAs
typically produces a lower aggregate gross margin on HSA net sales compared to
HGA net sales.
The Company's gross margin was 15.1% of net sales for the three month
period ended December 31, 1998, compared to a negative gross margin of (32.8%)
of net sales, for the comparable period in fiscal 1998. The improvement in gross
margin during the three month period ended December 31, 1998, compared to the
comparable period in fiscal 1998 was primarily attributable to a special charge
of $114.8 million to cost of sales, for the write-off of equipment and inventory
associated with the phase-out of advanced inductive technologies during the
first quarter of fiscal 1998. Excluding this special charge, gross margin was
10.9% of net sales during the three month period ending December 31, 1997.
For the quarter ended December 31, 1998, the Company has incurred lower
fixed costs as a result of the closure of manufacturing operations in Malaysia
during the later half of calendar year 1998 and has
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substantially reduced worldwide manufacturing headcount through layoffs and
attrition. In addition, the Company, through its operational excellence program,
is accelerating efforts to obtain improvements in productivity, cycle times and
asset utilization in its wafer fabrication facilities and HGA and HSA
manufacturing operations. For a discussion of certain risks associated with the
Company's business, see "Certain Additional Business Risks."
OPERATING EXPENSES
Research and development ("R&D") expenses were $23.7 million for the three
month period ended December 31, 1998, an increase over R&D expenses of $21.7
million for the comparable period in fiscal 1998. The increase in R&D expenses
in absolute dollars for the current period was attributable to increased
development efforts in MR, GMR and other emerging technologies to address the
disk drive industry's rapidly advancing technology requirements. From time to
time, the Company has engaged in fully or partially funded R&D for certain
existing or potential customers. R&D funding under such projects is offset as
expenses are incurred. During the three month period ended December 31, 1998,
approximately $0.8 million of development funding was offset against R&D
expenses. Funded R&D for the comparable period in fiscal 1998 was $1.9 million.
Selling, general & administrative ("SG&A") expenses were $7.3 million for
the three month period ended December 31, 1998, a decrease from SG&A expenses of
$9.5 million for the comparable period in fiscal 1998. The decrease in SG&A
expenses for the current period was due to the termination of the Company's
manufacturing operations in Malaysia during the later half of fiscal 1998, the
reduction in its worldwide headcount through layoffs and attrition during fiscal
1998, and continued cost containment efforts. The Company plans to continue its
SG&A cost containment efforts, and thus does not expect SG&A expenses to
increase significantly in absolute dollars in the near term.
NON-OPERATING EXPENSES
Interest expense was $7.4 million for the three month period ended December
31, 1998, a slight increase over interest expense of $7.3 million for the
comparable period in fiscal 1998. The increase in interest expense for the
current period was primarily due to the increase in the average debt outstanding
for working capital needs and higher interest rates in the current period.
Interest income and other, net was ($1.0 million) for the three month
period ended December 1998, compared to $0.5 million for the comparable period
in fiscal 1998. The decrease in interest income and other, net in the current
three month period was primarily due to lower interest income on lower average
cash, cash equivalent and short-term investment balances, which were
insufficient to offset the foreign exchange loss incurred in the current
quarter.
During the three month period ended December 31, 1998, the Company's
provision for income taxes consisted primarily of state franchise and foreign
minimum taxes. The Company recorded a tax benefit rate of 20.0% for the three
month period ended December 31, 1997. The Company's combined tax benefit rate
was 6.5% during fiscal 1998. The decrease in the tax benefit rate during the
three month period ended December 31, 1998, was primarily due to losses in the
U.S. and foreign jurisdictions for which no current benefit is available.
YEAR 2000 READINESS DISCLOSURE
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Computer programs
that have date-sensitive software may recognize a date using "00" as the year
1900 rather than the year 2000. The Company considers a product to be in "Year
2000 compliance" if the product's performance and functionality are unaffected
by processing of dates prior to, during and after the year 2000, but only if all
products (for example, hardware, software and firmware) used with the product
properly exchange accurate date data with it. The Company has a program to
assess the capability of its products to determine whether or not they are in
Year 2000 compliance. The Company believes its head products are transparent to
Year 2000 requirements. With respect to the Company's head
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<PAGE> 13
products, Year 2000 capable, as used herein, means that when used properly and
in conformity with the product information provided by the Company, the
Company's products will accurately read and write from the disk or from, into
and between the twentieth and twenty-first centuries, including leap year
calculations, provided that all other technologies and products used in
combination with the Read-Rite products are in Year 2000 compliance.
The table below indicates the phases of the Year 2000 Project related to
the Company's critical and priority internal systems and the expected time
frames.
<TABLE>
<CAPTION>
PHASES OF THE PROJECT START DATE END DATE
--------------------- ---------- --------
<S> <C> <C>
High level assessment of systems................... FY 1998 Q4 FY 98 (actual)
Detailed assessment, remediation and unit
testing.......................................... FY 1998 Q4 FY 99 (expected)
Deployment......................................... FY 1998.. Q4 FY 99 (expected)
Integration testing................................ FY 1998 Q4 FY 99 (expected)
</TABLE>
The Company does not believe it is legally responsible for costs incurred
by customers related to ensuring such customers' or end-users' Year 2000
capability. The Company has contacted its major customers to determine whether
their products into which the Company's products have been and will be
integrated are Year 2000 compliant. The Company has received assurances of Year
2000 compliance from a number of those customers. The Company anticipates that
substantial litigation may be brought against vendors, including the Company, of
all component products of systems that are unable to properly manage data
related to the Year 2000. The Company's agreements with customers typically
contain provisions designed to limit the Company's liability for such claims. It
is possible, however, that these measures will not provide protection from
liability claims, as a result of existing or future federal, state or local laws
or ordinances or unfavorable judicial decisions. Any such claims, with or
without merit, could result in a material adverse affect on the Company's
business, financial condition and results of operations, including increased
warranty costs, customer satisfaction issues and potential lawsuits. The Company
has also initiated formal communications with its critical suppliers and
financial institutions to determine the extent to which the Company is
vulnerable to those third parties' failure to remedy their own Year 2000 issue.
To date the Company has received assurances of Year 2000 compliance from a
number of those contacted. Most of the suppliers under existing contracts with
the Company are under no contractual obligation to provide such information to
the Company. The Company is taking steps with respect to new supplier agreements
to ensure that the suppliers' products and internal systems are Year 2000
compliant.
In fiscal 1998, a high level assessment was performed on the Company's
internal systems by an outside consulting group. This high level assessment
identified all critical and non-critical internal systems and the resources
required to ensure these systems are Year 2000 compliant. With this assessment,
the Company has developed and initiated a comprehensive program to address both
Year 2000 readiness in its internal systems and with its customers and
suppliers. The Company's program has been designed to address its most critical
internal systems first and to gather information regarding the Year 2000
compliance of products supplied to it and into which the Company's products are
integrated. The Company has formed internal teams to address Year 2000 readiness
at each of its manufacturing locations. Detailed assessment and remediation,
deployment, and integration testing of the Company's internal systems are
proceeding simultaneously, and the Company intends to have its critical internal
systems Year 2000 compliant by October 1, 1999, the first day of the Company's
fiscal year 2000. These activities are intended to encompass all major
categories of systems in use by the Company, including manufacturing,
engineering, sales, finance and human resources and will involve both the use of
internal resources and outside consultants. Certain of the Company's
manufacturing, engineering, facilities, finance and human resource systems are
deemed to be Year 2000 compliant as of December 31, 1998.
The costs incurred by the Company during the three month period ended
December 31, 1998, related to its Year 2000 readiness program were less than
$0.5 million and to date have been less than $1 million. The Company currently
expects that the total cost of its Year 2000 readiness programs, excluding
redeployed resources, will not exceed $5 million over the current fiscal year.
The total cost estimate does not include potential costs related to any
customer, vendor, or other claims or the costs of internal software or hardware
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<PAGE> 14
replaced in the normal course of business. The total cost estimate is based on
the current assessment of the Company's Year 2000 readiness needs, as defined by
the high level assessment performed in fiscal 1998, and is subject to change as
the projects proceed. The Company is identifying Year 2000 dependencies in its
equipment, processes and systems and is implementing changes to or replacements
of affected equipment, processes and systems to make them Year 2000 compliant.
There can be no assurance that the Company will have identified all such
dependencies (including those on its vendors, customers, or financial
institutions) or that it will implement its changes in an efficient and timely
manner or that any new systems will be adequate to support the Company's
operations. Problems with installation or initial operation of the changed
systems or replacements could cause substantial management difficulties in
operations planning, financial reporting and management and thus could have a
material adverse effect on the Company's business, financial condition and
results of operations. The cost of bringing the Company's systems into Year 2000
compliance is not expected to have a material effect on the Company's financial
condition or results of operations.
While the Company currently expects that the Year 2000 issue will not pose
significant operational problems, delays in the implementation of changes in or
replacements of information systems or a failure to fully identify all Year 2000
dependencies in the Company's systems and in the systems of its suppliers,
customers and financial institutions could have material adverse effect on the
Company's business, financial condition and results of operations. Therefore,
the Company is developing contingency plans for continuing operations in the
event such problems arise. The information set forth above, and elsewhere in
this quarterly report, related to Year 2000 issues constitutes a "Year 2000
Readiness Disclosure" as such term is defined by the Year 2000 Information and
Readiness Disclosure Act of 1998, enacted October 19, 1998 (Public Law 105-271,
112 Stat.2386).
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 1998, the Company had cash, cash equivalents and
short-term investments of $108.7 million, total assets of $897.7 million and
total long-term debt and capital leases, including the current portion, of
$402.4 million. The Company's cash generated by operating activities was $5.1
million during the three months ended December 31, 1998, including non-cash
charges of $44.6 million from depreciation and amortization, partially offset by
an increase of $36.5 million in accounts receivable related to increased sales
for the quarter.
The Company's business is highly capital intensive. During the three months
ended December 31, 1998, the Company incurred capital expenditures of $20.6
million and entered into operating leases for capital equipment of $9.4 million.
Capital expenditures have primarily been made to support production capacity in
Thailand and the Philippines, wafer production in the United States and Japan,
and new manufacturing processes and new technologies, such as MR and GMR. The
Company currently estimates capital expenditures for fiscal 1999 from between
$130 million and $140 million. However, certain assets may be acquired through
operating leases. Further, to the extent yields for the Company's products are
lower than expected, demand for products exceeds Company expectations, or the
Company's manufacturing process requirements change significantly, such
expenditures may increase. Conversely, if demand is less than anticipated, or if
the Company is unable to obtain adequate financing for such capital equipment
purchases, the planned capital equipment purchases may decrease. As of December
31, 1998, total commitments for construction or purchase of capital equipment
were approximately $64 million. The Company expects to fund such commitments
from available cash and cash equivalents, cash flows from operations and, if
necessary, from available credit facilities.
The Company has a $150 million secured credit facility ("Credit Facility")
with a syndicate of financial institutions. The facility, which expires on
October 2, 2001, consists of a $50 million term loan and a $100 million
revolving line of credit. As of December 31, 1998, the $50 million term loan was
outstanding in full and no amounts were outstanding under the $100 million
revolving line of credit. The term loan provides for quarterly principal
payments, beginning January 1999 and continuing through October 2001. The
facility is secured by the assets of the Company and 65% of the stock of the
Company's international subsidiaries. Borrowings under the revolving credit
facility are based upon eligible receivables and cash balances of the Company.
The term loan provides for interest payments which vary based on the London
Interbank Offered
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<PAGE> 15
Rate ("LIBOR"), plus an applicable margin. Additionally, the terms of the
facility require the Company to maintain certain financial ratios, observe a
series of additional covenants, and prohibit the Company from paying dividends
without prior bank approval. The Company was in compliance with all the
covenants under the Credit Facility for the three month period ended December
31, 1998. However, if the Company experiences a material unexpected decrease in
sales orders or a material unexpected increase in expenses, as it did during the
three month period ended June 30, 1998, the Company may need to seek amendments
to maintain compliance with the covenants of the Credit Facility. There can be
no assurance the Company will be successful in obtaining such amendments, if
required.
The Company believes that its current level of liquid assets, credit
facilities, and cash expected to be generated from operations will be sufficient
to fund its operations for the next twelve months. However, if industry
conditions worsen further or current industry conditions continue longer than
anticipated, the Company does not consistently achieve timely customer
qualifications on new product programs, or the Company is unsuccessful at
ramping up volume production on new products at acceptable yields, the Company's
working capital and other capital needs will increase. Conversely, if industry
demand increases significantly such that the Company's capital requirements
exceed management's current estimates, the Company may again need to raise
additional capital. The Company may seek such capital through additional bank
facilities, debt or equity offerings, or other sources. Further, the Company may
elect from time to time to seek additional financing to the extent available.
There can be no assurance, however, that any such required financing will be
available when needed on terms and conditions acceptable or favorable to the
Company, if at all.
The Company has never paid cash dividends on its capital stock. The Company
currently intends to retain any earnings for use in its business and does not
anticipate paying cash dividends in the foreseeable future. The Credit Facility
currently prohibits payment of cash dividends.
CERTAIN ADDITIONAL BUSINESS RISKS
The Company's business, financial condition and operating results can be
impacted by a number of factors, including but not limited to those set forth
below, any one of which could cause the Company's actual results to vary
materially from recent results or from the Company's anticipated future results.
FLUCTUATIONS IN OPERATING RESULTS
The Company has experienced substantial fluctuations in its quarterly and
annual operating results in the past, and the Company's future operating results
could vary substantially from quarter to quarter. The Company's operating
results for a particular quarter or longer periods can be materially and
adversely affected by numerous factors, such as increased competition or
execution issues leading to a failure by the Company to obtain "design-in wins"
on one or more customer programs; delayed product introductions or capacity
constraints on certain technologies; decreased demand for or decreased average
selling prices of the Company's products; low product manufacturing yields;
changes in product mix and increased operating costs associated with the ramp up
of production as capacity is added or under-utilization of capacity if demand is
less than anticipated; increased material costs or material or equipment
unavailability; and disruptions in foreign operations.
The Company's net sales are generally made pursuant to individual purchase
orders that may be changed or canceled by customers on short notice, often
without material penalties. Changes or cancellations of product orders could
result in under-utilization of production capacity and inventory write-offs. For
example, during the first quarter of fiscal 1998 and the second half of fiscal
1996, the Company experienced delays and cancellation of orders, reduced average
selling prices, inventory and equipment write-offs, increased unit costs due to
under-utilization of production capacity, and as a consequence, experienced a
significant reduction in net sales and gross margin and incurred significant
losses.
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<PAGE> 16
COMPETITION
The disk drive industry is intensely competitive, both at the drive level
and the component level, and is characterized by short product life cycles and
substantial price declines over the useful life of a product. Accordingly, the
Company believes that the most important competitive factors in its industry are
timely delivery of new technologies and price for a given technology. Other
significant factors are customer support, product quality and the ability to
reach volume production rapidly. Failure to execute with respect to any of these
factors would likely have a material adverse effect on the Company's net sales
and gross margin.
Japanese competitors such as Alps, TDK, and Yamaha have been aggressively
competing for business in the United States and in Japan, targeting the GMR
marketplace in particular. The Company's primary domestic competitors are
Applied Magnetics ("AMC"), Headway Technologies and IBM. Fujitsu, IBM, Seagate
and other disk drive manufacturers with "captive" or internal recording head
manufacturing capability generally have significantly greater financial,
technical and marketing resources than the Company, and have made or may make
their products available in the merchant market. For example, one of the
Company's largest customers, Western Digital Corporation ("WD") announced an
agreement with IBM under which IBM would supply WD with GMR heads and other
components for WD's manufacture of desktop hard disk drives, and presently
purchase a material percentage of its MR head requirements from IBM. The
Company's competitive position could be materially and adversely affected if one
or more of these competitors is successful in marketing advanced MR and/or GMR
products in the merchant market in volume quantities at competitive pricing.
In its HSA business, the Company must compete against certain of its
customers' internal HSA capacity, as well as against other merchant HSA
manufacturers such as AMC, Kabool, Kaifa, Tandon and TDK/SAE. Further, the HSA
business is less capital intensive than the thin film HGA business; entry into
the HSA manufacturing business thus requires less capital than entry into the
HGA business. Accordingly, there can be no assurance that the Company will be
able to compete successfully with its customers' own HSA capacity, or with
existing or new HSA manufacturers.
Finally, new technologies such as pico sliders and GMR heads, which the
Company has developed or is currently developing, may compete in the future with
the Company's current head technologies and may support areal density
capabilities significantly greater than the Company's MR heads now in commercial
production. Additionally, other manufacturers may already have or may develop
more advanced MR technology or MR production capability than the Company. For
example, Alps, IBM, TDK, and Yamaha have been expanding their manufacturing
operations to make GMR heads. Also, certain companies are developing alternative
data storage technologies, such as solid-state (flash or ferroelectric) memory,
optical disk drives or extensions of MIG technologies that do not utilize the
Company's products. The Company's competitive position will likely be materially
and adversely affected if a competitor precedes the Company in the successful
introduction of improved or new technologies or products.
DEPENDENCE ON A LIMITED NUMBER OF CUSTOMERS; RISK OF REDUCED ORDERS
The Company is a component supplier dependent upon a limited number of
customers in a volatile industry characterized by rapid technological change,
short product life cycles, intense competition and steady price erosion. In
addition, demand for the Company's products is highly variable and thus
difficult to predict accurately. This variability was demonstrated in the second
half of fiscal 1996 when significant orders were canceled and/or rescheduled by
certain customers with little or no advanced warning, and late in the first
quarter of fiscal 1998 as the Company significantly reduced its build plan for
its advanced inductive thin film 1.3GB per 3.5 inch disk recording head product
due to a significant and abrupt reduction in demand for this product, and in
fiscal 1998 generally due to industry conditions. In each case, these demand
variations materially and adversely affected the Company's business, financial
condition and results of operations. Further, during the three month period
ended June 30, 1998, the Company incurred restructuring costs of $93.7 million,
principally reflecting the Company's strategy to align worldwide operations with
current industry conditions and to improve the productivity of the Company's
manufacturing facilities. The restructuring costs were primarily associated with
the decision to significantly reduce and cease the Company's
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<PAGE> 17
manufacturing operations in Malaysia and the write-off of excess equipment at
its other manufacturing locations.
The Company's three largest customers, Maxtor, Samsung and WD, accounted
for 89% of net sales during the three month period ended December 31, 1998,
during which the Company produced HGAs in volume for 5 customers, HSAs in volume
for 4 customers and tape drive products in volume for 4 customers. Given the
small number of disk drive and tape drive manufacturers who require an
independent source of HGA, HSA or tape head supply, the Company will continue to
be dependent upon a limited number of customers. As demonstrated by the
significant reduction in the level of the Company's business in the last three
quarters of fiscal 1998, late in fiscal 1996 and in the second half of fiscal
1993, as well as the reduction in orders for advanced inductive products and the
bankruptcy filing by Micropolis in the first quarter of fiscal 1998, the loss of
any large customer, or a significant decrease in orders from one or more large
customers, will have a material adverse effect on the Company's business,
financial condition and results of operations.
This dependence upon a limited number of customers, means that
acquisitions, consolidations, or other material agreements affecting such
customers could also have a material adverse effect on the Company's business,
financial condition and operating results. For example, Seagate, a competitor of
the Company, acquired the tape head operations of AMC in fiscal 1995, completed
the acquisition of Conner Peripherals, Inc. (then a major customer of the
Company) in fiscal 1996, and completed the acquisition of Quinta Corporation,
the Company's partner and sole customer for its magneto-optical head development
effort, in August 1997. Although the Company has recently become a supplier to
Seagate, Seagate has significant internal disk and tape head manufacturing
capacity, so there can be no assurance that the Company will continue to be a
supplier to Seagate. In fiscal 1998, Hyundai sold part of their holdings in
Maxtor to the public. While the Company has remained a supplier to Maxtor
notwithstanding these changes in ownership, there can be no assurance that
Maxtor will continue purchasing a significant quantity of its head requirements
from the Company. Vertical integration by the Company's customers, through which
a customer acquires or increases internal HGA or HSA production capability,
could also materially and adversely affect the Company's business, financial
condition and results of operations. In 1994, Quantum, a principal customer of
the Company with no previous magnetic recording head capacity, acquired Digital
Equipment Corporation's recording head and disk drive operations. In May 1997,
Quantum further announced the formation of a joint venture with its primary
manufacturing partner in Japan, MKE, to manufacture MR recording heads for rigid
disk drives. According to the announcement, this new venture took over Quantum's
existing recording head operations and is owned 51% by MKE. In October 1998,
Quantum and MKE announced that the joint venture would be dissolved.
Finally, in 1998, WD and IBM announced a hard disk drive component supply
and technology licensing agreement. The Company does not yet know the precise
impact this agreement will have on the Company's net sales to WD, but
anticipates that this agreement will contribute significantly to IBM's ability
to sustain or increase its market share at WD, which would make it more
difficult for the Company to sustain its own market share with this key
customer. Other acquisitions or significant transactions by the Company's
customers leading to further consolidation, vertical integration or other
material agreements could also materially and adversely affect the Company's
business, financial condition and results of operations.
RAPID TECHNOLOGICAL CHANGE
Technology changes rapidly in the Company's industry. These rapid changes
require the Company to both address obsolescence of old technologies and
anticipate new technologies. Failure to smoothly transition from old
technologies or to anticipate and execute on new technologies can have a
material adverse effect on the Company's business, financial condition and
results of operations. For example, in November 1997, the Company responded to
the disk drive industry's continuing rapid shift to MR technology by
accelerating implementation of its existing strategies to transition fully to MR
production while reducing its build plan for its advanced inductive thin film
1.3GB per 3.5 inch disk recording head product due to a significant reduction in
demand for this product. As a result, the Company incurred a special charge
during the first quarter of fiscal 1998 of $114.8 million, primarily for the
write-off of equipment and inventory associated with the phase-out of advanced
inductive technologies. The Company's 1.3GB per 3.5 inch advanced inductive head
products were
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<PAGE> 18
Read-Rite's last generation inductive products sold for the desktop market. The
Company expects continued small sales of advanced inductive products to the
removable storage market.
Due to the ever increasing performance requirements for recording heads,
all of the customer programs using the Company's MIG products reached end of
life during the third quarter of fiscal 1996, materially and adversely impacting
the Company's financial results for several subsequent quarters. In addition,
during the second quarter of fiscal 1996, the Company learned that to
participate in certain customer programs, the Company's products would have to
incorporate a technical feature that the Company called "undershoot reduction."
Though the Company began development of necessary processes for undershoot
reduction in the second quarter of fiscal 1996 and successfully reached volume
production during the fourth quarter of fiscal 1996, the significant start-up
costs and delays in new product introductions materially and adversely impacted
both the Company's net sales and gross margin in the second half of fiscal 1996.
During fiscal 1998, the Company's primary net sales were derived from thin
film inductive and MR products, which required substantial investments in
product development and manufacturing equipment and facilities to effectively
extend the performance of these products to compete with new products supporting
higher areal densities. To maintain its market position, the Company must
continually and timely improve its wafer fabrication, slider fabrication, HGA
and HSA technologies and facilities to meet industry demands, at competitive
costs. As the Company's customers continue to move towards fewer, larger
programs, and as competition for this increasingly limited number of large
volume programs continues to increase, the failure by the Company to execute on
technologies necessary to consistently obtain qualification on any of such
volume programs will have a material adverse effect on the Company's business,
financial condition and results of operations.
The Company shipped 21.6 million MR heads (including heads in HSAs and Tape
Head products), accounting for 95% of net sales for the three month period ended
December 31, 1998. The Company intends to continue investing significant
resources in MR and GMR product development and manufacturing equipment. The
Company anticipates primarily all of is sales for fiscal 2000 will be derived
from sales of MR and GMR products. There can be no assurance, however, that the
Company will be successful in timely and cost effectively developing and
manufacturing MR and GMR heads at acceptable manufacturing yields and as
necessary to achieve consistent design-in wins on new product programs.
SUBSTANTIAL CAPITAL EXPENDITURES AND WORKING CAPITAL NEEDS
The Company's business is highly capital intensive. To maintain its market
position, the Company must anticipate demand for its products and the path of
new technologies so that production capacity, both in terms of amount and the
proper technologies, will be in place to meet customers' needs. Accurate
capacity planning is complicated by the pace of technological change,
unpredictable demand variations, the effects of variable manufacturing yields,
and the fact that most of the Company's plant and equipment expenditures have
long lead times, thus requiring major commitments well in advance of actual
requirements. The Company's underestimation or overestimation of its capacity
requirements, or failure to successfully and timely put in place the proper
technologies, would have a material adverse effect on the Company's business,
financial condition and results of operations.
The Company has made substantial capital expenditures and installed
significant production capacity to support new technologies and increased demand
for its products. The Company made capital expenditures in fiscal 1998 of $186.2
million, compared to $272.8 million in fiscal 1997, and plans to spend between
approximately $130 million and $140 million in fiscal 1999. However, certain
assets may be acquired through operating Leases. As of December 31, 1998, total
commitments for construction or purchase of capital equipment were approximately
$64 million. There can be no assurance that the Company's net sales will
increase sufficiently to absorb such additional costs, and that there will not
be periods, such as in fiscal 1996, and in fiscal 1998, when net sales declined
quarter to quarter.
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INTERNATIONAL OPERATIONS
The Company's production process is also labor intensive. As a result, the
Company conducts substantially all of its HGA machining, assembly and test
operations, HSA assembly and tape head assembly operations offshore, and is thus
subject to the many risks associated with contracting with foreign vendors and
suppliers and with the ownership and operation of foreign manufacturing
facilities, including obtaining requisite governmental permits and approvals,
currency exchange fluctuations and restrictions, variable or higher tax rates,
expiration of tax holidays, political instability, changes in government
policies relating to foreign investment and operations, cultural issues, labor
problems, trade restrictions, transportation delays and interruptions, and
changes in tariff and freight rates. The Company has from time to time
experienced labor organization activities at certain of its foreign operations,
most recently during the first quarter of fiscal 1997, but none of the Company's
employees are currently represented by a union. There can be no assurance,
however, that the Company will continue to be successful in avoiding work
stoppages or other labor issues in the future.
In addition, several Asian countries, including Japan, Thailand and the
Philippines, have experienced significant economic downturns and significant
fluctuations in the value of their currencies relative to the U.S. dollar. The
Company believes the worldwide decrease in demand for disk drives during fiscal
1998 is, in part, impacted by the economic downturn in these markets, and thus
has negatively impacted the Company's net sales during the last three quarters
of fiscal 1998. The Company is unable to predict what effect, if any, these
factors will have on its ability to manufacture products in these markets. The
Company enters into foreign currency forward and option contracts in an effort
to manage exposure related to certain foreign currency commitments, certain
foreign currency denominated balance sheet positions and anticipated foreign
currency denominated expenditures, as substantially all of the Company's foreign
sales are denominated in U.S. dollars
COMPLEX MANUFACTURING PROCESSES
The Company's manufacturing processes involve numerous complex steps. Minor
deviations can cause substantial manufacturing yield loss, and in some cases,
cause production to be suspended. Manufacturing yields for new products
initially tend to be lower as the Company completes product development and
commences volume manufacturing, and thereafter typically increase as the Company
ramps to full production. The Company's forward product pricing reflects this
assumption of improving manufacturing yields, and as a result, material
variances between projected and actual manufacturing yields have a direct effect
on the Company's gross margin and profitability. The difficulty of forecasting
manufacturing yields accurately and maintaining cost competitiveness through
improving manufacturing yields will continue to be magnified by ever increasing
process complexity of manufacturing MR and GMR products, and by the compression
of product life cycles which requires the Company to bring new products on line
faster and for shorter periods while maintaining acceptable manufacturing yields
and quality, without, in many cases, reaching the longer-term, high volume
manufacturing conducive to higher manufacturing yields and declining costs.
DEPENDENCE ON LIMITED NUMBER OF SUPPLIERS
As a high technology company in a narrowly defined industry, the Company is
often dependent upon a limited number of suppliers and subcontractors, and in
some cases on single sources, for critical components or supplies. Limitation on
or interruption of the supply of certain components or supplies can severely and
adversely affect the Company's production and results of operations. The Company
has limited alternative sources of certain key materials such as wafer
substrates, photoresist, wires and suspensions and frequently must rely on a
single equipment supplier for a given equipment type due to lack of viable
alternatives or to insure process consistency. Accordingly, capacity
constraints, production failures or restricted allocations by the Company's
suppliers could have a material adverse effect on the Company's own production,
and its business, financial condition and results of operations.
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INVENTORY RISKS
Due to the cyclical nature of and rapid technological change in the hard
disk drive industry, the Company's inventory is subject to substantial risk. To
address these risks, the Company monitors its inventories on a periodic basis
and provides inventory write-downs intended to cover inventory risks. However,
given the Company's dependence on a few customers and a limited number of
product programs for each customer, the magnitude of the commitments the Company
must make to support its customers' programs and the Company's limited remedies
in the event of program cancellations, if a customer cancels or materially
reduces one or more product programs, or should a customer experience financial
difficulties, the Company may be required to take significant inventory charges
which, in turn, could materially and adversely affect the Company's business,
financial condition and results of operations. While the Company has taken
certain charges and provided inventory write-downs, there can be no assurance
that the Company will not be required to take additional inventory write-downs
in the future due to the Company's inability to obtain necessary product
qualifications, or to further cancellations by customers.
The Company manufactures custom products for a limited number of customers.
Because its products are custom-built, the Company typically cannot shift raw
materials, work-in-process or finished goods from customer to customer, or from
one product program to another for a particular customer. However, to enable its
customers to get their products to market quickly and to address its customers'
demand requirements, the Company must invest substantial resources and make
significant materials commitments, often before obtaining formal customer
qualifications and generally before the market prospects for its customers'
products are clear. Moreover, given the rapid pace of technology advancement in
the disk drive industry, the disk drive products that do succeed have
unpredictable, and typically very short, life cycles. Finally, in response to
rapidly shifting business conditions, the Company's customers have generally
sought to limit their purchase order commitments to the Company, and certain
customers have on occasion canceled or materially modified outstanding purchase
orders with the Company without significant penalties. For example, the Company
experienced significant cancellations during the second half of fiscal 1996 and
during the first two quarters of fiscal 1998, as a result of which the Company
incurred charges for inventory obsolescence, which materially and adversely
affected the Company's operating results.
VOLATILITY OF STOCK PRICE
The trading price of the Company's common stock in the past has been
subject to wide fluctuations in response to quarter to quarter variations in
operating results, announcements of technological innovations or new products by
the Company or its competitors, general conditions in the disk drive and
computer industries, and other events or factors. In addition, stock markets
have experienced extreme price volatility in recent years. This volatility has
had a substantial effect on the market price of securities issued by many high
technology companies, in many cases for reasons unrelated to the operating
performance of the specific companies, and the Company's common stock has
experienced volatility not necessarily related to announcements of Company
performance. Broad market fluctuations may adversely affect the market price of
the Company's common stock.
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<PAGE> 21
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In December 1996, a purported class action complaint was filed in the
Superior Court of the State of California, Santa Clara County, by Joan D.
Ferrari and Mark S. Goldman against the Company and certain of its officers and
directors (the "Ferrari State Action"). The complaint in the Ferrari State
Action alleges that during a purported class period of April 19, 1995 -- January
22, 1996, defendants made materially false and misleading statements concerning
the Company's business condition and prospects, in violation of the California
Corporations Law, the California Civil Code (those sections prohibiting fraud),
and the California Business and Professions Code. The plaintiffs in the Ferrari
State Action seek damages of an unspecified amount. In May 1997, the Superior
Court entered an order (1) sustaining the demurrers of certain defendants to the
California Corporations Code cause of action and overruling the demurrers of
Read-Rite Corporation and certain other defendants to that same cause of action;
and (2) sustaining the demurrers of all defendants as to the remaining causes of
action.
In January 1997, a purported class action complaint was filed in the United
States District Court for the Northern District of California by Ferrari and
Goldman against the Company and certain of its officers and directors (the
"Ferrari Federal Action"). The Ferrari Federal Action contains virtually
identical factual allegations as the Ferrari State Action, and alleges
violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934
and SEC Rule 10b-5. The plaintiffs in the Ferrari Federal Action also seek
damages of an unspecified amount.
In January 1997, a purported class action complaint was filed in the United
States District Court for the Northern District of California by Edward McDaid
against the Company and certain of its officers and directors (the "McDaid
Federal Action"). The McDaid Federal Action alleges that defendants made false
and misleading statements about the Company's business condition and prospects
during a purported class period of July 19, 1995 -- June 19, 1996, and alleges
violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934
and SEC Rule 10b-5. The plaintiffs in the McDaid Federal Action seek damages of
an unspecified amount. The Ferrari Federal Action and the McDaid Federal Action
were consolidated into one action by the court, in the Read-Rite Corp.
Securities Litigation (the "Consolidated Action").
In May 1997, a purported class action complaint was filed in the United
States District Court for the Northern District of California by James C. Nevius
and William Molair against the Company and certain of its officers and directors
(the "Nevius Federal Action"). The Nevius Federal Action alleges that defendants
made false and misleading statements about the Company's business condition and
prospects during a purported class period of March 2, 1996 -- June 19, 1996, and
alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of
1934 and SEC Rule 10b-5. The plaintiffs in the Nevius Federal Action seek
damages of an unspecified amount. Plaintiffs in the McDaid Federal Action moved
in June 1997 to dismiss their complaint. This motion was granted by the court.
In June 1997, defendants successfully moved to consolidate the Nevius Federal
Action with the Consolidated Action.
In August 1998, the court in the Consolidated Action granted defendants
motion to dismiss but granted plaintiffs leave to file an amended complaint. In
January 1999, plaintiffs filed their amended complaint.
There has been no discovery to date in the federal actions and no trial is
scheduled in any of these actions. The Company believes it has meritorious
defenses to all three of these actions (the Ferrari State Action and the Ferrari
and Nevius Federal actions), and intends to defend each of them vigorously.
20
<PAGE> 22
The Company believes that the Company and the individual defendants have
meritorious defenses in the above-described actions. Accordingly, both on its
own behalf and pursuant to indemnification agreements between the Company and
the named individual defendants, the Company intends to continue to defend each
of these actions vigorously. Failure by the Company to obtain a favorable
resolution of the claims set forth in any of these actions could have a material
adverse effect on the Company's business, results of operations and financial
condition. Currently, the amount of such material adverse effect cannot be
reasonably estimated.
Except as so noted, the Company is not a party, nor is its property
subject, to any material pending legal proceedings other than ordinary routine
litigation incidental to the Company's business. The Company does not believe
such routine litigation, taken individually or in the aggregate, will have a
material adverse effect on the Company's business, financial condition or
results of operations.
21
<PAGE> 23
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<S> <C>
27.1 Financial Data Schedule (electronic filing only)
</TABLE>
(b) Reports on Form 8-K
No Reports on Form 8-K were filed during the quarter ended December 31,
1998.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
Date: February 10, 1999 /s/ JOHN T. KURTZWEIL
--------------------------------------
John T. Kurtzweil
Vice President, Finance and
Chief Financial Officer
22
<PAGE> 24
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBITS DESCRIPTION
- -------- -----------
<C> <S>
27.1 Financial Data Schedule (electronic filing only)
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED CONDENSED BALANCE SHEET AT DECEMBER 31, 1998 AND CONSOLIDATED
CONDENSED STATEMENT OF OPERATIONS FOR THE THREE MONTHS ENDED DECEMBER 31, 1998
AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> OCT-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 62,826
<SECURITIES> 45,860
<RECEIVABLES> 152,487
<ALLOWANCES> 5,620
<INVENTORY> 62,740
<CURRENT-ASSETS> 327,326
<PP&E> 1,269,209
<DEPRECIATION> 718,368
<TOTAL-ASSETS> 897,703
<CURRENT-LIABILITIES> 206,349
<BONDS> 385,543
0
0
<COMMON> 5
<OTHER-SE> 237,484
<TOTAL-LIABILITY-AND-EQUITY> 897,703
<SALES> 230,188
<TOTAL-REVENUES> 230,188
<CGS> 195,327
<TOTAL-COSTS> 195,327
<OTHER-EXPENSES> 31,021
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 7,368
<INCOME-PRETAX> 1,170
<INCOME-TAX> 48
<INCOME-CONTINUING> 1,122
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,122
<EPS-PRIMARY> 0.02
<EPS-DILUTED> 0.02
</TABLE>
