<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
- --- OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended JUNE 30, 1997
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 0-17431
NETWORK GENERAL CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 77-0115204
- -------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
4200 Bohannon Drive, Menlo Park, California 94025
- -------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code) (650) 473-2000
--------------------
Indicate by check 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 June 30, 1997, there were 42,722,860 shares of the Registrant's
Common Stock (par value $0.01 per share) outstanding.
The exhibit index begins on page 14.
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NETWORK GENERAL CORPORATION
FORM 10-Q
INDEX
PAGE
------
Cover Page 1
Index 2
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
Condensed Consolidated Statements of Income -
Three months ended June 30, 1997 and 1996 3
Condensed Consolidated Balance Sheets -
June 30, 1997 and March 31, 1997 4
Condensed Consolidated Statements of Cash Flows -
Three months ended June 30, 1997 and 1996 5
Notes to Condensed Consolidated Financial
Statements (Unaudited) - June 30, 1997 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 7 - 13
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 13
Item 6. Exhibits and Reports on Form 8-K 14 - 16
Signatures 17
2
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NETWORK GENERAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
Three Months Ended June 30,
1997 1996
--------- ---------
(Unaudited)
<S> <C> <C>
Revenues:
Product $ 43,017 $ 40,639
Services 15,306 11,041
--------- ---------
Total revenues 58,323 51,680
--------- ---------
Cost of Revenues:
Product 10,845 9,661
Services 4,845 3,312
--------- ---------
Total cost of revenues 15,690 12,973
--------- ---------
Gross margin 42,633 38,707
Operating Expenses:
Sales and marketing 20,890 17,022
Research and development 9,420 7,176
General and administrative 4,418 3,704
--------- ---------
Total operating expenses 34,728 27,902
--------- ---------
Income from operations 7,905 10,805
Interest and other income, net 2,582 1,691
--------- ---------
Income before provision for income
taxes 10,487 12,496
Provision for income taxes 3,513 3,811
--------- ---------
Net income $ 6,974 $ 8,685
--------- ---------
--------- ---------
Earnings per share $ 0.16 $ 0.19
--------- ---------
--------- ---------
Weighted average common and common
equivalent shares outstanding 44,123 46,145
--------- ---------
--------- ---------
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
3
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NETWORK GENERAL CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
June 30, 1997 March 31, 1997
------------- --------------
(Unaudited)
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents $ 27,211 $ 48,778
Marketable securities 89,312 83,661
Accounts receivable, net 42,952 51,461
Inventories:
Purchased parts 2,324 1,386
Finished goods 4,787 3,921
--------- ---------
Total inventories 7,111 5,307
Prepaid expenses and deferred tax assets 15,206 14,826
--------- ---------
Total current assets 181,792 204,033
Property and Equipment:
Demonstration and rental equipment 10,101 10,500
Office and development equipment 37,510 34,732
Leasehold improvements 6,129 5,680
--------- ---------
53,740 50,912
Less accumulated depreciation and amortization (30,696) (30,035)
--------- ---------
Net property and equipment 23,044 20,877
Long-term investments 30,096 32,462
Other assets 6,872 5,899
--------- ---------
$ 241,804 $ 263,271
--------- ---------
--------- ---------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 9,784 $ 28,173
Accrued liabilities 22,380 20,626
Deferred revenue 30,203 31,216
--------- ---------
Total current liabilities 62,367 80,015
Long-term deferred revenue and taxes 3,875 3,860
Stockholders' Equity:
Common stock
Issued - 42,722,860 shares at June 30, 1997
43,248,588 shares at March 31, 1997 427 432
Additional paid-in capital 51,269 62,072
Retained earnings 123,866 116,892
--------- ---------
Total stockholders' equity 175,562 179,396
--------- ---------
$ 241,804 $ 263,271
--------- ---------
--------- ---------
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
4
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NETWORK GENERAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
For the Three Months Ended June 30,
1997 1996
-------- --------
(Unaudited)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 6,974 $ 8,685
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 3,537 2,219
Deferred taxes, net (961) (692)
Gain on sale of investments (556) -
Net change in certain assets and liabilities 9,719 (790)
-------- ---------
Net cash provided by operating activities 18,713 9,422
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of held-to-maturity investments (9,594) (33,816)
Purchases of available-for-sale investments (24,891) (8,900)
Proceeds from maturities of held-to-maturity
investments 21,537 50,046
Proceeds from sales/maturities of available-
for-sale investments 8,792 13,600
Cash used to purchase 3DV Technology, Inc. (20,000) -
Net additions to property and equipment (5,623) (2,257)
-------- ---------
Net cash (used in) provided by investing
activities (29,779) 18,673
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock 1,223 3,808
Repurchases of common stock (11,724) (10,130)
-------- ---------
Net cash used in financing activities (10,501) (6,322)
Net (decrease) increase in cash and cash equivalents (21,567) 21,773
Cash and cash equivalents at beginning of period 48,778 34,180
-------- ---------
Cash and cash equivalents at end of period $ 27,211 $ 55,953
-------- ---------
-------- ---------
Supplemental Disclosure:
Cash paid during the period for income taxes $ 1,270 $ 1,982
</TABLE>
The accompanying notes are an integral part
of these condensed consolidated financial statements.
5
<PAGE>
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
June 30, 1997
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements of
Network General Corporation ("Network General" or the "Company") have been
prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
the unaudited condensed consolidated financial statements reflect all
adjustments, consisting of normal recurring adjustments, necessary for a fair
presentation of the financial position, results of operations and cash flows
for the interim periods presented. These unaudited condensed consolidated
financial statements should be read in conjunction with the consolidated
financial statements, and notes thereto, for the year ended March 31, 1997
included in the Company's 1997 Annual Report on Form 10-K. The results of
operations for the three months ended June 30, 1997 are not necessarily
indicative of the results that may be expected for the fiscal year ending
March 31, 1998.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting periods.
Actual results could differ from those estimates.
2. EARNINGS PER SHARE
Earnings per share are computed using the weighted average number of shares
of common stock and common stock equivalents outstanding during the period.
Fully diluted earnings per share are the same as primary earnings per share.
3. RECENTLY ISSUED ACCOUNTING STANDARD
In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128"),
which is required to be adopted by the Company in its third quarter of fiscal
year 1998. At that time, the Company will be required to change the method
currently used to compute earnings per share and to restate earnings per
share for all prior periods. Under the new requirements for calculating
earnings per share, primary earnings per share will be replaced with basic
earnings per share and fully diluted earnings per share will be replaced with
diluted earnings per share. Under basic earnings per share, the dilutive
effect of stock options will be excluded. Basic earnings per share is
expected to be $0.01 higher than the reported primary earnings per share for
the quarter ended June 30, 1996 and no change is expected for the quarter
ended June 30, 1997. No change is expected for fully diluted earnings per
share for the quarters ended June 30, 1997 or 1996.
4. SUBSEQUENT EVENT
On July 30, 1997, the Company announced it had signed a definitive agreement
to acquire privately-held Cinco Networks, Inc. ("Cinco"), a Pleasanton,
California-based provider of network analysis products.
Under the terms of the acquisition transaction, which closed August 5, 1997,
the Company acquired all of the outstanding common stock of Cinco for an
initial payment of $26.3 million, plus the possibility of contingent payments
one and two years after the acquisition. The Company will account for the
transaction as a purchase and will record charges for in-process research and
development and acquisition related expenses in the fiscal quarter ending
September 30, 1997.
6
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements 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, which reflect the Company's
current judgment on those issues. Because such statements apply to future
events, they are subject to risks and uncertainties and, therefore, actual
results may differ materially. Important factors which could cause actual
results to differ materially are described in the following paragraphs and
are particularly noted under BUSINESS RISKS in the Company's report on Form
10-K for the year ended March 31, 1997 and in other reports filed with the
Securities and Exchange Commission from time to time.
RESULTS OF OPERATIONS
Revenues for the quarter ended June 30, 1997 increased 13% to $58.3 million
compared to revenues of $51.7 million for the quarter ended June 30, 1996.
Revenue growth was attributable to continued acceptance of the Company's tool
and system products and services offerings, as well as expansion into
indirect channels and international markets.
Domestic revenues increased 11% to $43.3 million for the quarter ended June
30, 1997 compared to $38.9 million for the quarter ended June 30, 1996.
International revenues increased 18% to $15.0 million for the quarter ended
June 30, 1997 compared to $12.8 million for the same period in 1996.
European revenues grew 23% as a result of the Company's European sales
strategy involving both direct and indirect sales channels. Pacific Rim,
Latin American and Canadian revenues increased 15% quarter over quarter due
to increased sales volumes by the Company's exclusive partner in Japan.
<TABLE>
<CAPTION>
Three Months Ended June 30,
---------------------------
(Dollars in thousands)
SOURCES OF REVENUES 1997 1996
--------- ---------
<S> <C> <C>
Tool Products (1) $ 26,904 $ 27,036
System Products (2) 16,113 13,603
--------- ---------
Subtotal Product Revenues 43,017 40,639
Services (3) 15,306 11,041
--------- ---------
Total Revenues $ 58,323 $ 51,680
--------- ---------
--------- ---------
<CAPTION>
PERCENTAGES OF REVENUES 1997 1996
--------- ---------
<S> <C> <C>
Tool Products 46% 52%
System Products 28% 27%
--------- ---------
Subtotal Product Revenues 74% 79%
Services 26% 21%
--------- ---------
Total Revenues 100% 100%
--------- ---------
--------- ---------
</TABLE>
(1) Tool Products include revenues from the Sniffer-Registered Trademark-
Network Analyzer ("Sniffer") local area network (LAN) analysis products,
wide area network (WAN) analysis products, the NETSYS Technologies, Inc.
line of connectivity and performance tools, the Ganymede Software, Inc.
line of Chariot network performance test tools and royalties from license
agreements.
(2) System Products consist of revenues from the Distributed Sniffer
System-Registered Trademark- analysis products, performance measurement
analysis products, the Foundation probe and agent remote monitoring
products, the SharpShooter monitoring products, the DATACOM Systems, Inc.
line of network switching devices, the NetScout Systems, Inc. (formerly
known as Frontier Software Development, Inc.) line of NetScout remote
monitoring products, the Service Level Manager monitoring products and
Proactive Management Products (the 3DV family of analysis products).
(3) Services revenues include first-year warranty revenues as defined by
Statement of Position 91-1, "SOFTWARE REVENUE RECOGNITION" and revenues
from Sniffer product rentals, software support, maintenance contracts and
education and consulting services.
7
<PAGE>
The Company's tool products revenues were $26.9 million for the quarter ended
June 30, 1997 compared to $27.0 million for the quarter ended June 30, 1996.
The decline is due to slightly lower Sniffer Network Analyzer ("Sniffer")
product sales offset by increased sales of third party products. Revenue
from Sniffer product sales accounted for substantially all of the Company's
tool products revenues in both three month periods ended June 30, 1997 and
1996, respectively.
Revenues for the quarter ended June 30, 1997 included $16.1 million of system
products revenues, an 18% increase compared to $13.6 million for the quarter
ended June 30, 1996. The Distributed Sniffer System analysis products
accounted for the majority of the Company's system products revenues in both
three month periods ended June 30, 1997 and 1996, respectively.
Services revenues include revenues from software support and maintenance
contracts, and education and consulting services, as well as those revenues
from the first-year warranty period of customer support which have been
deferred and recognized in accordance with SOP 91-1, "SOFTWARE REVENUE
RECOGNITION." For the quarter ended June 30, 1997, services revenues
increased 39% to $15.3 million compared to $11.0 million for the quarter
ended June 30, 1996. The increase in services revenues resulted from growth
in all categories of services revenues, but principally due to the growth of
the installed customer base and the resulting renewal of maintenance
contracts. In addition, the Company experienced increased demand for its
education and consulting services.
Cost of revenues consists of manufacturing costs, cost of services, royalties
and warranty expenses. Gross margin as a percentage of revenues decreased to
73% for the quarter ended June 30, 1997 from 75% in the quarter ended June
30, 1996. This decrease resulted from higher growth in services revenues
which have historically lower gross margins than the Company's products and
changes in the mix of products sold (increased sales of third party products
which have a higher cost of revenue than the Company's own products).
Sales and marketing expenses increased 23% to $20.9 million for the quarter
ended June 30, 1997, compared to $17.0 million for the same period in fiscal
year 1997. This increase was due primarily to staffing and commission
expenses required to support increased sales volumes. As a percentage of
revenues, sales and marketing expenses increased to 36% for the quarter
ended June 30, 1997 compared to 33% for the quarter ended June 30, 1996.
Research and development expenses were $9.4 million for the quarter ended
June 30, 1997 compared to $7.2 million for the quarter ended June 30, 1996.
As a percentage of revenues, research and development expenses increased to
16% for the quarter ended June 30, 1997 compared to 14% for the quarter
ended June 30, 1996. The increase in spending was a result of increased
staffing and equipment expense to support growth in the Company's breadth of
product and services offerings.
General and administrative expenses for the quarter ended June 30, 1997
increased 19% to $4.4 million compared to $3.7 million for the quarter ended
June 30, 1996. The increase in general and administrative expenses was
primarily due to increased staffing to support operations. General and
administrative expenses as a percentage of revenues were 8% for the quarter
ended June 30, 1997 and 7% for the same quarter in fiscal year 1997.
Interest and other income, net increased 53% to $2.6 million for the quarter
ended June 30, 1997 compared to $1.7 million for the quarter ended June 30,
1996. The increase in interest and other income, net was primarily the result
of gains on the sale of investments and on the sale of the AIM Performance
Measurement line of business.
The provision for income taxes was 33.5% for the quarter ended June 30, 1997,
compared to 30.5% for the quarter ended June 30, 1996. Substantially all of
the Company's operating loss carryforwards were utilized at the end of fiscal
year 1997, resulting in a higher tax rate.
8
<PAGE>
Earnings per share for the quarter ended June 30, 1997 decreased 16% to $0.16
per share compared to $0.19 per share for the same period in fiscal year
1997. The decrease in earnings per share was due to lower net income offset, in
part, by fewer weighted average common and common equivalent shares
outstanding.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operating activities was $18.7 million for the three
months ended June 30, 1997 compared to $9.4 million for the three months
ended June 30, 1996. For the period ended June 30, 1997, the primary source
of these funds was net income adjusted for depreciation and amortization and
net changes in certain assets and liabilities, offset by increased deferred
taxes, net and the gain on sale of investments. For the same period in
fiscal year 1997, the source of these funds was net income adjusted for
depreciation and amortization, offset by increased deferred taxes, net and
net changes (uses) in certain assets and liabilities.
Net cash used in investing activities was $29.8 million for the three months
ended June 30, 1997 compared to net cash provided by investing activities of
$18.7 million for the three months ended June 30, 1996. Net cash used in
investing activities during the first three months of fiscal year 1998
reflects the payment of $20.0 million paid in April 1997 for the March 31,
1997 acquisition of 3DV Technology, Inc., purchases of investments and net
additions to property and equipment, offset by proceeds from sales/maturities
of investments. Net cash provided by investing activities during the first
quarter of fiscal year 1997 reflects proceeds from sales/maturities of
held-to-maturity and available-for-sale investments, net of property and
equipment and investment purchases.
Net cash used in financing activities was $10.5 million for the three months
ended June 30, 1997 and $6.3 million for the three months ended June 30,
1996. During the first three months of fiscal year 1998, repurchases of common
stock totaled $11.7 million, offset by proceeds of $1.2 million from the
issuance of common stock under the Company's stock option plans. Net cash
used in financing activities during the first quarter of fiscal year 1997
reflects stock repurchases totaling $10.1 million, offset by proceeds of $3.8
million from stock issuances under the Company's stock option plans.
The Company currently has no outstanding bank borrowings or any established
lines of credit. The Company believes cash generated from operations,
together with existing cash and investment balances, will be sufficient to
satisfy operating cash and capital expenditure requirements through at least
the next twelve months.
SUBSEQUENT EVENT
On July 30, 1997, the Company announced it had signed a definitive agreement
to acquire privately-held Cinco Networks, Inc. ("Cinco"), a Pleasanton,
California-based provider of network analysis products.
Under the terms of the acquisition transaction, which closed August 5, 1997,
the Company acquired all of the outstanding common stock of Cinco for an
initial payment of $26.3 million, plus the possibility of contingent payments
one and two years after the acquisition. The Company will account for the
transaction as a purchase and will record charges for in-process research and
development and acquisition related expenses in the fiscal quarter ending
September 30, 1997.
BUSINESS RISKS
The following is a summary of risks affecting the business and results of
operations of Network General Corporation ("Network General") and should be
read in conjunction with the description of the Company's business contained
in the Company's Form 10-K for the year ended March 31, 1997 (the "1997 10-K").
9
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FLUCTUATIONS IN PERIODIC RESULTS. The Company's operating results can vary
substantially from period to period. The Company expects its earnings growth
rate for fiscal year 1998 to be lower than it was in fiscal year 1997.
Management expects the lower growth rate to be driven by a number of factors,
including lower order growth rates than experienced in recent periods due
principally to order weakness in Europe and longer sales cycles domestically,
increased staffing in the Company's research and development, direct sales
and service organizations, anticipated decreases in investment balances, the
dilutive effect of 3DV and Cinco operations and a higher planned tax rate.
The Company currently expects to achieve sequential quarterly revenue growth
during the remainder of calendar year 1997. There can be no assurance the
Company's actual results will meet the operating plan for fiscal year 1998 or
any particular quarter.
Over the last two fiscal years, gross margin as a percentage of revenue
declined from 77% to 74% due principally to three factors: increased sales of
third party products which generally have lower gross margins for the
Company; increased revenue attributable to services which have a high labor
cost; and increased pressure to reduce prices or grant higher price
discounts. The Company has been successful in offsetting these declines in
gross margin by controlling operating expenses. If the Company is unable to
continue to offset future gross margin declines, if any, by continued control
of operating expenses, the Company's operating results could be materially
adversely affected.
The timing and amount of the Company's product revenues are subject to a number
of factors that make estimating operating results prior to the end of a quarter
extremely uncertain. Historically, the Company has not maintained a significant
level of backlog and, as a result, product revenues in any quarter are dependent
on contracts entered into or orders booked and shipped in that quarter. During
fiscal year 1997, the Company generally experienced a trend toward higher order
receipts toward the end of each month of a quarter, resulting in a higher
percentage of revenue shipments during the last month of a quarter than in
fiscal year 1996, which makes predicting results more difficult. The timing of
closing large product sales or licensing transactions increases the risks of
quarter-to-quarter fluctuations and the uncertainty of estimating quarterly
operating results.
Planned operating expenses are normally targeted to planned revenue levels
for the period and are incurred ratably throughout the period. If expenses
remain relatively fixed, but the Company's revenues are less than planned in
any quarter, Network General's operating results would be adversely affected
for that quarter. Recently, the Company has experienced a trend toward higher
order rates and revenue shipments in the last month of a quarter. These
trends make it more difficult to minimize the impact of a revenue shortfall
by reducing spending levels. In addition, incurring unplanned expenses could
adversely affect operating results for the period in which such expenses are
incurred.
Failure to achieve periodic revenue, earnings and other operating and
financial results as forecasted or anticipated by brokerage firms or industry
analysts could result in an immediate and adverse effect on the market price
of the Company's common stock. The Company may not discover, or be able to
confirm, revenue or earnings shortfalls until the end of a quarter, which
could result in a greater immediate and adverse effect on the Company's stock
price.
INTEGRATION OF ACQUIRED COMPANIES. The Company acquired 3DV Technology Inc.
("3DV") and Cinco with the expectations the acquisitions would result in
beneficial synergies for the combined operation, including the enhancement of
the products offered by the Company's Systems Technology and Analysis Tools
Business Units and expansion of the Company's penetration into the
entry-level and high-end markets. The enhancement of product offerings
requires the successful integration of both technology (key 3DV and Cinco
technology with the Company's Total Network Visibility architecture) and
personnel (the engineering departments of 3DV and the Company's Systems
Technology Business Unit and of the research and development groups of Cinco
and the Company's Analysis Tools Business Unit), as well as customer
acceptance of the 3DV and Cinco technologies. In addition, the Company
intends to continue selling 3DV and Cinco products on a standalone basis for
the foreseeable future, the success of which is
10
<PAGE>
dependent on the integration of the two companies' sales forces and the
training of Network General's direct and indirect sales forces as to the
products of the acquired companies. Cinco's NetXRay protocol analyzer
provides functionality which is a subset of the functionality provided by
Network General's Sniffer family of products. Certain customers of the
Company's Sniffer products are also using NetXRay products for different
levels of network analysis and the Company expects customers will continue to
need and purchase both of these products. There is a risk, however, certain
customers may perceive the lower-priced NetXRay products to contain
sufficient functionality and decide not to purchase Sniffer products which
may have a higher selling price. There can be no assurance the integration
of technology, engineering departments or sales organizations will be
successful or will not take longer than anticipated or that unit sales and\or
selling prices of Sniffer products will not be adversely impacted by sales
and\or pricing of NetXRay products.
CUSTOMER PURCHASE DECISIONS. The products offered by the Company may be
considered to be capital purchases by certain customers or prospective
customers. Capital purchases are often considered discretionary and,
therefore, are cancelled or delayed if the customer experiences a downturn in
its business or prospects or as a result of economic conditions in general.
Any such cancellation or delay could adversely affect the Company's operating
results. The Company's revenue level for the quarter ended June 30, 1997 was
lower than expected at the beginning of the quarter primarily because of
order weakness in Europe. In July 1997, the Company announced it expected
the softness in Europe and longer sales cycles domestically to continue for
the remainder of calendar year 1997.
PRODUCT DEVELOPMENT. Network General's long-term success will depend on
its ability to enhance its product offerings and to introduce new products on
a timely and cost-effective basis which meet the needs of its current and
future customers. The Company remains committed to adding new technologies
and products through continued investments in research and development and
through strategic acquisitions. During fiscal year 1997, the Company
announced its Total Network Visibility open application architecture intended
to provide enterprise-wide management of complex heterogeneous client-server
environments. The success of the architecture is dependent on the development
of applications to help manage key areas of interest for users and customer
acceptance of those applications. However, there can be no assurance Network
General will be successful in developing new products or in enhancing
existing products or that new or enhanced products will meet market
requirements. Network General has, from time to time, experienced delays in
introducing new products. While the Company believes such delays have not
been materially harmful to the Company's business or reputation, future
delays could adversely impact acceptance of and revenue generated from the
sale of any delayed products.
INTERNATIONAL SALES AND ACTIVITIES. Revenues derived from Network
General's international operations continue to increase in absolute dollars
as well as a percentage of total revenues. Europe is one of the Company's
key international markets. The Company's selling strategy in Europe
continues to transition from indirect to direct selling. Additionally,
management believes there has been some weakening in the European market
for networking products which was evidenced by the impact of order weakness
in Europe on the Company's revenues during the June 1997 quarter. These
factors may limit the Company's ability to achieve its growth objectives in
Europe in the near term. While most of the Company's sales or license
transactions are U.S. dollar denominated, a growing number of transactions,
particularly in Europe, are invoiced in local currency. The Company has
sales and support offices throughout Europe and, to a lesser extent, the
Pacific Rim and Latin American territories. Expenses of the overseas
operations are incurred in local currency. Accordingly, Network General has
exposure for potential losses in the value of foreign currency transactions
relative to the U.S. dollar between the time the transaction is entered on
the Company's financial statements and the time the receivable or expense is
paid. To minimize the impact of foreign currency fluctuations, the Company
maintains a hedging program to cover forecasted foreign currency-based
transaction exposures. The current program uses foreign exchange forward
contracts and may, in the future, include other means such as foreign
currency option contracts. There can be no assurance the Company's hedging
program will continue to minimize
11
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any adverse impact of foreign currency exchange rate fluctuations. Also,
Network General's operations could be adversely affected by other factors
associated with international operations such as uncertainties relative to
regional economic circumstances, political instability in emerging markets
and difficulties staffing and managing foreign operations.
COMPETITION. The Company competes with an array of established and
emerging computer, communications, intelligent network wiring, network
management and test equipment companies. Some of these companies have
greater financial, technological and personnel resources than those of
Network General. The smaller competitors are often willing to offer lower
pricing or other favorable terms for products competitive with those of the
Company. This could result in pressure on the Company to reduce pricing on
its products unless it is able to prevail on the sale by successfully
differentiating the benefits and functionality of the Company's products
compared to those of the competitor. Moreover, new competitors, new
technology and new marketing techniques may cause customer confusion, thereby
lengthening the sales cycle process for the Company's products.
RETENTION OF KEY PERSONNEL. The Company's ability to achieve its revenue
and operating performance objectives will depend in large part on its ability
to attract and retain technically qualified and highly skilled sales,
consulting, technical, marketing and management personnel. Network General
competes for engineers for its development organizations principally in
California's Silicon Valley and in Oregon against companies with far greater
resources and broader focus in the networking industry. It vies for all of
its personnel with other members of the networking product industry, where
competition for such personnel is intense and is expected to remain so for
the foreseeable future. Failure to retain and grow its key employee
population could adversely affect Network General's business and operating
results.
INTELLECTUAL PROPERTY. The Company relies on a combination of trade
secret, copyright, and trademark laws and contractual provisions to protect
its proprietary rights in its products. There can be no assurance these
protections will be adequate or that competitors will not independently
develop technologies that are substantially equivalent or superior to Network
General's products. There has been a trend toward litigation regarding patent
and other intellectual property rights in the software industry. Although
there are currently no lawsuits pending against the Company regarding
possible infringement claims, there can be no assurance such claims will not
be asserted in the future or that such assertions will not materially
adversely affect the Company's business, financial condition and results of
operation. Any such suit, whether or not having merit, would be costly to
the Company in terms of employee time and defense costs and could materially
adversely affect Network General and its business, financial condition and
results of operations. If an infringement or misappropriation claim is
asserted against Network General, the Company may need to obtain a license
from the claimant to use the intellectual property rights. There can be no
assurance such a license will be available on reasonable terms or at
all. Failure to obtain a license on commercially reasonable terms could
materially adversely affect the Company's business, financial condition and
results of operations.
SALES CHANNELS. The Company has expanded its use of indirect product
resale channels in certain territories (particularly North America) and has
added a direct sales force in other territories (particularly Europe)
previously served only by indirect sales channels. The existence of direct
and indirect sales channels may lead to conflict for the same customer,
pressure by current and prospective customers for price reductions on the
Company's products and reductions in the Company's gross margin and operating
profit. In addition, the success of a direct sales organization in a
territory formerly covered by an independent distributor is dependent on a
number of factors, including the ability to attract and retain qualified
sales personnel, timely and effective training of the sales force and
obtaining access to and penetrating the prospective customer base previously
addressed by the prior reseller. For certain countries, the Company
maintains a resale agreement with a single reseller that either has exclusive
distribution rights for the territory or has no other Network General
reseller competing with it in the territory. The failure of such a reseller
to perform its sales generation and support obligations under the
12
<PAGE>
distribution agreement could adversely affect the Company's revenue from, and
reputation with, customers in the territory.
SUPPLIER DEPENDENCE. Certain of the Company's products contain critical
components supplied by a single or a limited number of third parties. The
Company has been required to purchase and inventory certain of the computer
platforms around which it designs its products so as to ensure an available
supply of the product for its customers. Any significant shortage of these
platforms or other components or the failure of the third party supplier to
maintain or enhance these products could lead to cancellations of customer
orders or delays in placement of orders which could materially adversely
affect the Company's results of operations. If the Company's purchase of
such components or platforms exceeds demand, the Company could incur losses
or other charges in disposing excess inventory, which could also materially
adversely affect the Company's operating results.
TRADEMARKS
Sniffer and Distributed Sniffer System are registered trademarks of Network
General Corporation and/or its wholly owned subsidiaries.
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
From time to time the Company has been, or may become, involved in
litigation proceedings incidental to the conduct of its business. The
Company does not believe any such proceedings presently pending will
have a material adverse affect on the Company's financial position
or its results of operations.
13
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K:
1) Exhibits
Exhibit
Number Exhibit Title
- ------- -------------
3.1 Third restated certificate of Incorporation of Network General
Corporation, a Delaware corporation, which is incorporated by
reference to Exhibit 4.1 of the Registration Statement on Form S-8
(Registration No. 333-12187) filed with the SEC on September 17,
1996.
3.2 Amended and Restated Bylaws of Network General Corporation, which
is incorporated by reference to Exhibit 3.2 of the Company's
Quarterly Report on Form 10-Q for the quarter ended September 30,
1995.
4.1 Registration Rights Agreement between the Company and certain
investors dated December 31, 1987, which is incorporated by
reference to Exhibit 4.2 of the Company's Registration Statement
No. 33-26107 on Form S-1, which became effective February 2, 1989
("Form S-1").
4.2 Rights Agreement between the Company and Chemical Trust Company of
California dated June 26, 1992, as amended, which is incorporated
by reference to Exhibit 4.2 of the Company's Annual Report on Form
10-K for the year ended March 31, 1993.
10.1 Standard Business Lease (Net) for the Company's principal facility
dated June 18, 1991, between the Company and Menlo Oaks Partners,
L.P., which is incorporated by reference to Exhibit 10.3 of the
Company's Annual Report on Form 10-K for the year ended March 31,
1991.
10.2 First Amendment to Lease dated June 10, 1992, between the Company
and Menlo Oaks Partners, L.P., which is incorporated by reference
to Exhibit 10.3 of the Company's Annual Report on Form 10-K for
the year ended March 31, 1992 ("1992 Form 10-K").
10.3 Standard Business Lease (Net) for the Company's principal facility
dated March 11, 1992, between the Company and Menlo Oaks Partners,
L.P., which is incorporated by reference to Exhibit 10.4 of the
1992 Form 10-K.
10.4 First Amendment to Lease dated June 18, 1992, between the Company
and Menlo Oaks Partners, L.P., which is incorporated by reference
to Exhibit 10.5 of the 1992 Form 10-K.
10.5 Lease dated March 31, 1992, between the Company and Equitable Life
Assurance Society of the United States, which is incorporated by
reference to Exhibit 10.4 of the 1992 Form 10-K.
10.6 Description of Company's Cash Bonus Plan, which is incorporated by
reference to Exhibit 10.6 of the Form S-1.
10.7 Form of Director and Officer Indemnification Agreement, which is
incorporated by reference to Exhibit 10.7 of the Form S-1.
14
<PAGE>
10.8 Amended and Restated 1989 Outside Directors Stock Option Plan and
related documentation, which is incorporated by reference to Exhibit
10.8 of the Company's Quarterly Report on Form 10-Q for the quarter
ended September 1996 (the "September 1996 10-Q").
10.9 Form of Stock Purchase Agreement used in conjunction with the 1989
Outside Directors Stock Option Plan, which is incorporated by
reference to Exhibit 10.15 to the Company's Annual Report on Form
10-K for the year ended March 31, 1989.
10.10 OEM Agreement dated August 3, 1991 between the Company and NCR
Corporation which is incorporated by reference to Exhibit 10.18 of
the Company's Registration Statement No. 33-45580 on Form S-3
which became effective on April 6, 1992.
10.12 Agreement dated April 8, 1994 between the Company and PNJ
Engineering providing for a lump sum settlement of a royalty
obligation between the Company and PNJ Engineering, which is
incorporated by reference to Exhibit 10.19 of the 1994 Form 10-K.
10.13 Employment agreement dated April 6, 1994 between the Company and
Leslie Denend, which is incorporated by reference to Exhibit 10.21
of the Company's Quarterly Report on Form 10-Q for the quarter
ended June 30, 1994 ("June 1994 Form 10-Q").
10.14 Employment agreement dated April 6, 1994 between the Company and
James T. Richardson, which is incorporated by reference to Exhibit
10.22 of the June 1994 Form 10-Q.
10.15 Employment agreement dated April 6, 1994 between the Company and
Richard Lewis, which is incorporated by reference to Exhibit 10.23
of the June 1994 Form 10-Q.
10.16 Second Amendment to Lease dated February 1, 1995 between the
Company and Menlo Oaks Partners, L.P., which is incorporated by
reference to Exhibit 10.2 of the Company's Quarterly Report on
Form 10-Q for the quarter ended December 31, 1994 ("December 1994
Form 10-Q").
10.17 Third Amendment to Lease dated February 1, 1995 between the
Company and Menlo Oaks Partners, L.P., which is incorporated by
reference to Exhibit 10.23 of the December 1994 Form 10-Q.
10.18 Fourth Amendment to Lease dated May 31, 1995 between the Company
and Menlo Oaks Partners, L.P., which is incorporated by reference
to Exhibit 10.27 of the Company's Quarterly Report on Form 10-Q
for the quarter ended June 30, 1995 10-Q ("June 1995 Form 10-Q").
10.19 Fifth Amendment to Lease dated June 13, 1995 between the Company
and Menlo Oaks Partners, L.P., which is incorporated by reference
to Exhibit 10.28 of the June 1995 Form 10-Q.
10.20 Network General Corporation 1989 Stock Option Plan, as amended August
9, 1996, and related documentation which is incorporated by reference
to Exhibit 10.17 of the September 1996 Form 10-Q.
15
<PAGE>
10.21 Network General Corporation 1989 Employee Stock Option Plan, as
amended August 9, 1996, and related documentation which is
incorporated by reference to Exhibit 10.18 of the September 1996
Form 10-Q.
10.22 Employment Agreement dated August 19, 1995 between the Company and
Michael Kremer, which is incorporated by reference to Exhibit
10.22 of the Company's Annual Report on Form 10-K for the year
ended March 31, 1996.
10.23 Lease dated July 3, 1996, between the Company and Campbell Avenue
Associates, which is incorporated by reference to Exhibit 10.21 to
the Company's Quarterly Report on Form 10-Q for the quarter ended
June 30, 1996.
10.24 Secured Loan Agreement dated October 29, 1996 between the Company
and John Richard Stringer, which is incorporated by reference to
Exhibit 10.21 of the September 1996 Form 10-Q.
10.25 Sixth Amendment to Lease dated November 29, 1996 between the
Company and Menlo Oaks Partners, L.P., which is incorporated by
reference to Exhibit 10.22 of the Company's Quarterly Report on Form
10-Q for the quarter ended December 31, 1996.
10.26 Confidential Retirement Agreement and General Release of Claims
dated as of December 10, 1996 by and between the Company and
Richard H. Lewis, which is incorporated by reference to Exhibit
10.26 of the Company's Annual Report on Form 10-K for the year
ended March 31, 1997 ("1997 Form 10-K").
10.27 Confidential Resignation Agreement and General Release of Claims
dated as of January 10, 1997 by and between the Company and
Michael H. Kremer, which is incorporated by reference to Exhibit
10.27 of the 1997 Form 10-K.
10.28 Agreement made as of April 1, 1997 between the Company and David
M. Carver, which is incorporated by reference to Exhibit
10.28 of the 1997 Form 10-K.
10.29 Agreement made as of April 1, 1997 between the Company and John R.
Stringer, which is incorporated by reference to Exhibit
10.29 of the 1997 Form 10-K.
27.0 Financial Data Schedule
2) Form 8-K
The Company did not file any reports on Form 8-K during the three months ended
June 30, 1997.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NETWORK GENERAL CORPORATION
(Registrant)
Date: August 13, 1997 by /S/ JAMES T. RICHARDSON
---------------------------------
James T. Richardson
Senior Vice President and
Chief Financial Officer
(Principal Financial Officer)
17
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