SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended February 27, 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: 0-17932
-------------------------------------------------
Micron Electronics, Inc.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Minnesota 41-1404301
------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
900 E. Karcher Road, Nampa, Idaho 83687 83687
------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (208) 893-3434
----------------------
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
--- ---
The number of outstanding shares of the registrant's common stock as of
March 14, 1997 was 95,475,116.
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Micron Electronics, Inc.
Statements of Operations
(Amounts in thousands, except per share amounts)
<TABLE>
<CAPTION>
For the quarter ended For the six months ended
February 27, February 29, February 27, February 29,
1997 1996 1997 1996
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net sales $ 510,274 $ 456,619 $ 931,292 $ 895,197
Cost of goods sold 418,659 407,609 759,227 787,475
--------- --------- --------- ---------
Gross margin 91,615 49,010 172,065 107,722
Selling, general and
administrative 47,517 32,637 87,343 64,024
Research and development 1,034 934 1,917 1,595
Restructuring charge - 29,500 - 29,500
--------- --------- --------- ---------
Operating income (loss) 43,064 (14,061) 82,805 12,603
Interest income, net 1,536 645 2,806 1,673
--------- --------- --------- ---------
Income (loss) before taxes 44,600 (13,416) 85,611 14,276
Income tax provision
(benefit) 16,761 (860) 32,960 10,217
--------- --------- --------- ---------
Net income (loss) $ 27,839 $ (12,556) $ 52,651 $ 4,059
========= ========= ========= =========
Earnings (loss) per share $ 0.30 $ (0.14) $ 0.56 $ 0.04
Number of shares used in
per share calculation 93,630 91,507 93,274 92,371
</TABLE>
The accompanying notes are an integral part of the financial statements.
1
<PAGE>
Micron Electronics, Inc.
Balance Sheets
(Dollars in thousands, except par value amounts)
<TABLE>
<CAPTION>
As of February 27, 1997 August 29, 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 200,325 $ 115,839
Receivables 157,483 176,547
Inventories 107,561 69,863
Deferred income taxes 24,000 35,014
Other current assets 1,402 1,853
--------- ---------
Total current assets 490,771 399,116
Property, plant and equipment, net 146,548 129,192
Other assets 136 1,625
--------- ---------
Total assets $ 637,455 $ 529,933
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable and accrued expenses $ 241,305 $ 247,044
Accrued licenses and royalties 35,570 27,242
Current debt 5,937 3,064
--------- ---------
Total current liabilities 282,812 277,350
Long-term debt 18,174 18,233
Deferred income taxes 3,021 2,436
Other liabilities 3,314 3,454
--------- ---------
Total liabilities 307,321 301,473
--------- ---------
Commitments and contingencies
Common stock, $.01 par value, authorized
150.0 million shares; issued and
outstanding 95.5 million shares at
February 27, 1997 and 92.5 million
shares at August 29, 1996 955 925
Additional capital 118,515 69,392
Retained earnings 210,716 158,143
Cumulative foreign currency translation
adjustment (52) -
--------- ---------
Total shareholders' equity 330,134 228,460
--------- ---------
Total liabilities and shareholders' equity $ 637,455 $ 529,933
========= =========
</TABLE>
The accompanying notes are an integral part of the financial statements.
2
<PAGE>
Micron Electronics, Inc.
Statements of Cash Flows
(Amounts in thousands)
<TABLE>
<CAPTION>
For the six months ended February 27, 1997 February 29, 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 52,651 $ 4,059
Adjustments to reconcile net income to
net cash flows from operating activities
Depreciation 15,326 8,989
Amortization 123 1,424
Restructuring charge - 29,500
Changes in assets and liabilities, net
of effect of restructuring charge:
Receivables 19,064 (14,502)
Inventories (37,698) (15,467)
Accounts payable and accrued expenses (2,882) (5,817)
Accrued licenses and royalties 8,329 10,680
Deferred income taxes 11,599 (10,778)
Other 257 272
--------- ---------
Net cash provided by operating activities 66,769 8,360
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Expenditures for property, plant and
equipment (34,297) (23,287)
Proceeds from sales of property, plant and
equipment 193 614
Other - (41)
--------- ---------
Net cash used for investing activities (34,104) (22,714)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from borrowings 4,568 15,000
Repayments of debt (1,754) (6,685)
Proceeds from issuance of common stock 49,119 1,216
Purchase and retirement of stock (112) (626)
--------- ---------
Net cash provided by financing activities 51,821 8,905
--------- ---------
Net increase (decrease) in cash and cash
equivalents 84,486 (5,449)
Cash and cash equivalents at beginning of
period 115,839 69,406
--------- ---------
Cash and cash equivalents at end of period $ 200,325 $ 63,957
========= =========
SUPPLEMENTAL DISCLOSURES
Non-cash investing and financing
activities:
Issuance of stock granted pursuant to
the 1991 Stock Incentive Plan $ - $ 1,299
</TABLE>
The accompanying notes are an integral part of the financial statements.
3
<PAGE>
Micron Electronics, Inc.
Notes to Financial Statements
(Tabular amounts in thousands)
1. Unaudited Interim Financial Statements
In the opinion of management, the accompanying unaudited financial
statements contain all adjustments (consisting solely of normal recurring
adjustments) necessary to present fairly the financial position of Micron
Electronics, Inc. and its subsidiaries (collectively, the "Company") and
their results of operations and cash flows. Certain reclassifications have
been made, none of which affect results of operations, to present the
financial statements on a consistent basis.
This report on Form 10-Q for the second fiscal quarter ended February 27,
1997, should be read in conjunction with the Company's Report on Form 10-K
for the fiscal year ended August 29, 1996. Portions of the accompanying
financial statements are derived from the audited year-end financial
statements of the Company dated August 29, 1996. The Company's fiscal year
is a 52 or 53 week period ending on the Thursday closest to August 31.
During the second quarter of fiscal 1997, the Company completed the sale
of 3.0 million shares of its common stock in an underwritten offering. Net
proceeds of approximately $48.2 million were received by the Company. In
the public offering, Micron Technology, Inc., the Company's parent, sold
approximately 12.4 million shares thereby reducing its ownership of the
Company to 64%. In connection with the offering, the Company, MTI and
certain officers and directors of the Company have each agreed that they,
without the prior consent of the managing underwriters of the public offering,
will not offer to sell, contract to sell or otherwise dispose of any common
stock of the Company for a period of 90 days after February 12, 1997, except
pursuant to the Company's stock option or purchase plans existing as of
February 12, 1997.
2. Restructuring Charge
In February 1996, the Company adopted a plan to discontinue the
manufacture and sale of ZEOS brand PC systems and to close the related
manufacturing operations in Minneapolis, Minnesota. As a result, the
Company recorded a restructuring charge of $29.5 million ($22.6 million or
$0.25 per share, net of taxes) in the second quarter of fiscal 1996. The
restructuring charge included approximately $14.8 million related to the
disposition of inventory of discontinued product lines, the write-off of
$11.4 million of goodwill which resulted from the merger with ZEOS, $1.4
million for other asset write-downs, $1.1 million for personnel related
costs for approximately 250 employees in manufacturing, purchasing,
customer service, finance and administrative functions and $0.8 million of
other exit costs.
3. Receivables
<TABLE>
<CAPTION>
February 27, 1997 August 29, 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
Trade receivables $ 152,981 $ 171,820
Receivables from affiliates, net 6,270 2,526
Income taxes recoverable from parent
corporation 4,375 5,147
Other 3,008 7,363
Allowance for doubtful accounts (7,294) (8,221)
Allowance for returns and discounts (1,857) (2,088)
--------- ---------
$ 157,483 $ 176,547
========= =========
</TABLE>
4
<PAGE>
Micron Electronics, Inc.
Notes to Financial Statements Continued
(Tabular amounts in thousands)
4. Inventories
<TABLE>
<CAPTION>
February 27, 1997 August 29, 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
Raw materials and supplies $ 79,210 $ 45,949
Work in progress 15,336 13,239
Finished goods 13,015 10,675
--------- ---------
$ 107,561 $ 69,863
========= =========
</TABLE>
5. Property, Plant and Equipment
<TABLE>
<CAPTION>
February 27, 1997 August 29, 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
Land $ 1,639 $ 1,639
Buildings 41,912 17,647
Equipment 148,851 120,393
Assets in progress 12,596 35,398
--------- ---------
204,998 175,077
Less accumulated depreciation and
amortization (58,450) (45,885)
--------- ---------
$ 146,548 $ 129,192
========= =========
</TABLE>
6. Accounts Payable and Accrued Expenses
<TABLE>
<CAPTION>
February 27, 1997 August 29, 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
Trade accounts payable $ 171,079 $ 157,350
Payable to affiliates 16,466 25,829
Salaries, wages and benefits 19,954 16,168
Income taxes payable to parent corporation 2,887 1,300
Income taxes payable 378 14,526
Equipment contracts payable 8,566 7,955
Accrued warranty 8,588 7,905
Other 13,387 16,011
--------- ---------
$ 241,305 $ 247,044
========= =========
</TABLE>
5
<PAGE>
Micron Electronics, Inc.
Notes to Financial Statements Continued
(Tabular amounts in thousands)
7. Debt
<TABLE>
<CAPTION>
February 27, 1997 August 29, 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
Notes payable in periodic installments
through September, 2001 weighted average
interest rate of 7.56% at February 27,
1997 and 7.52% at August 29, 1996 $ 24,085 $ 21,261
Other 26 36
--------- ---------
24,111 21,297
Less current portion (5,937) (3,064)
--------- ---------
$ 18,174 $ 18,233
========= =========
</TABLE>
The Company has an unsecured revolving credit facility with its parent
corporation providing for borrowings of up to $80.0 million, based on the
Company's tangible net worth. As of February 27, 1997, the Company was
eligible to borrow approximately $80.0 million under the facility, but had
no borrowings outstanding.
The Company has an unsecured credit agreement with two financial
institutions providing for borrowings totaling $40.0 million, based on the
amount of the Company's eligible receivables. As of February 27, 1997, the
Company was eligible to borrow $40.0 million under the agreement, but had
no borrowings outstanding.
Certain of the Company's notes payable are collateralized by equipment
with a total cost of approximately $22.0 million and accumulated
depreciation of approximately $3.0 million as of February 27, 1997.
8. Transactions with Affiliates
<TABLE>
<CAPTION>
For the quarter ended For the six months ended
February 27, February 29, February 27, February 29,
1997 1996 1997 1996
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net sales $ 8,736 $ 11,850 $ 13,497 $ 29,670
Inventory purchases 18,375 52,055 36,757 131,776
Revenue sharing and
product and process
technology expenses - 18,035 - 33,161
Component recovery
agreement expenses 9,677 - 15,461 -
Administrative services
expenses 233 389 475 778
Property, plant and
equipment purchases 383 499 529 690
Property, plant and
equipment sales 121 - 121 -
Construction management
services 79 23 624 49
</TABLE>
9. Income Taxes
The effective income tax rate for the first six months of fiscal 1997
was 38.5%, principally reflecting the federal statutory rate and the net
effect of state taxes. The Company's effective income tax rate of 71.6%
for the corresponding period in 1996 principally reflected the federal
statutory rate, the effect of the write-off during the second quarter of
fiscal 1996 of $11.4 million of nondeductible goodwill and the net effect
of state taxes. In the second quarter of fiscal 1997, the Company reduced
its estimated annual effective tax rate from 39.5% to 38.5% as a result of
an increase in the estimated level of state tax credits available to the
Company and the effect of sales to foreign countries.
6
<PAGE>
Micron Electronics, Inc.
Notes to Financial Statements Continued
(Tabular amounts in thousands)
10. Earnings Per Share
Earnings per share is computed using the weighted average number of
common and common equivalent shares outstanding. Common equivalent shares
result from the assumed exercise of outstanding stock options and affect
earnings per share when they have a dilutive effect.
11. Commitments
As of February 27, 1997, the Company had commitments of $18.2 million
for equipment purchases and $6.3 million for construction of buildings.
In addition, the Company is required to make minimum royalty payments under
certain agreements and periodically enters into purchase commitments with
certain suppliers.
12. Contingencies
Periodically, the Company is made aware that technology used by the
Company may infringe on intellectual property rights held by others. The
Company has accrued a liability and charged operations for the estimated
costs of settlement or adjudication of asserted and unasserted claims for
alleged infringement prior to the balance sheet date. Resolution of these
claims could have a material adverse effect on future results of operations
and could require changes in the Company's products or processes.
The Company is currently a party to various legal actions arising out of
the normal course of business, none of which is expected to have a material
adverse effect on the Company's financial position or results of operations.
7
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following discussion contains trend information and other forward-
looking statements that involve a number of risks and uncertainties. Micron
Electronics, Inc.'s actual results could differ materially from its
historical results of operations and those discussed in the forward-looking
statements. Factors that could cause actual results to differ materially
include, but are not limited to, those identified in "Certain Factors."
Overview
Micron Electronics, Inc., and its subsidiaries (collectively, the
"Company") manufacture electronic products and provide services for a wide
range of computing and digital applications. The Company develops,
markets, manufactures and supports a wide range of PC systems for consumer,
business, government and educational use. Micron Custom Manufacturing
Services, Inc., a wholly-owned subsidiary of Micron Electronics, Inc.,
provides custom contract manufacturing services to original equipment
manufacturers. The Company's SpecTek memory products division processes
and markets reduced specification memory products under the SpecTek brand
name. The Company is majority owned by Micron Technology, Inc. ("MTI").
All period references are to the Company's fiscal periods ended February
27, 1997, November 28, 1996, August 29, 1996 or February 29, 1996, unless
otherwise indicated. All tabular dollar amounts are stated in thousands.
Results of Operations
Net income for the second quarter of fiscal 1997 was $27.8 million, or
$0.30 per share, on net sales of $510.3 million, compared to a net loss of
$12.6 million, or $0.14 per share, on net sales of $456.6 million for the
second quarter of fiscal 1996. Net income for the first six months of
fiscal 1997 was $52.7 million, or $0.56 per share, on net sales of $931.3
million, compared to net income of $4.1 million, or $0.04 per share, on net
sales of $895.2 million for the first six months of fiscal 1996. Results
of operations in the second quarter and first six months of fiscal 1996
were adversely affected by a pretax restructuring charge of $29.5 million
($22.6 million, or $0.25 per share, net of taxes) resulting from the
Company's decisions in the second quarter of fiscal 1996 to discontinue
sales of ZEOS brand PC systems and to close its related manufacturing
operation in Minneapolis, Minnesota.
Net Sales
The following summarizes the Company's net sales by product line:
<TABLE>
<CAPTION>
Second Quarter Six Months
---------------------------------- ----------------------------------
1997 1996 1997 1996
---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
PC systems $ 409,578 80.3% $ 298,215 65.3% $ 755,485 81.1% $ 598,012 66.8%
Contract manufacturing 71,377 14.0% 108,538 23.8% 123,134 13.2% 209,090 23.4%
SpecTek memory products 29,319 5.7% 49,866 10.9% 52,673 5.7% 88,095 9.8%
--------- ------ --------- ------ --------- ------ --------- ------
Total net sales $ 510,274 100.0% $ 456,619 100.0% $ 931,292 100.0% $ 895,197 100.0%
========= ====== ========= ====== ========= ====== ========= ======
</TABLE>
Total net sales for the second quarter and first six months of fiscal
1997 were higher compared to the corresponding periods in 1996 primarily
due to a higher level of sales of PC systems, partially offset by lower
revenues from the Company's contract manufacturing and SpecTek memory
products operations which were adversely affected by the industry-wide
decline in pricing for semiconductor memory products.
8
<PAGE>
Personal Computer Systems. Net sales of PC systems increased in the
second quarter and first six months of fiscal 1997 compared to the
corresponding periods in 1996 primarily as a result of increased PC units
sold, partially offset by a slight decline in average selling prices for
the Company's PC systems. Total unit sales of PC systems in the second
quarter and first six months of fiscal 1997 were approximately 45% and 33%
higher, respectively, compared to the corresponding periods in 1996, while
unit sales of Micron brand PC systems were approximately 54% and 50%
higher, respectively, over the same periods. Demand for the Company's PC
systems was largely attributable to increased name recognition and market
acceptance of the Company's Micron brand PC systems and continued greater
acceptance of the direct sales channel for PC products. Increased
production of PC systems in 1997 was made possible through manufacturing
efficiencies gained in the redesign of the Company's Nampa, Idaho
operation primarily during the third quarter of fiscal 1996. There can be
no assurance that the Company's name recognition and market acceptance of
its PC products will continue to improve or remain at current levels and
there can be no assurance of the continued growth of the direct sales
channel for PC systems, each of which could have a material adverse effect
on the Company's business and results of operations. See "Certain
Factors-Personal Computer Systems-Reliance on the Direct Sales Approach" and
"Certain Factors-Personal Computer Systems-Competition in the PC Industry."
Sales to federal, state and local governmental entities were
approximately 16% and 21% of total net sales of PC systems in the second
quarter and first six months of fiscal 1997, respectively, compared to
approximately 10% and 13% in the corresponding periods in 1996. The higher
level of sales of PC systems to governmental entities was attributable to
sales under the federal government's General Services Administration Vendor
program which began in the third quarter of fiscal 1996 and to other direct
sales to governmental entities. In addition, sales under federal
government procurement programs increased to represent approximately 4% and
7% of total sales of PC systems in the second quarter and first six months
of fiscal 1997, respectively, compared to approximately 3% and 7% in the
corresponding periods in 1996. Such sales were approximately 53% lower in
the second quarter of fiscal 1997 compared to the first quarter of fiscal
1997. The level of the Company's sales of PC systems to governmental
entities may vary from quarter to quarter depending on, among other things,
the buying practices of governmental entities and the Company's continued
and future participation in government procurement programs, of which there
can be no assurance. A significant decline in sales to governmental
entities could have a material adverse effect on the Company's business and
results of operations.
Unit sales of notebook systems were approximately 10% and 9% of total
unit sales of PC systems in the second quarter and first six months of
fiscal 1997, respectively, compared to approximately 1% in the
corresponding periods in 1996. Notebook sales in fiscal 1997 were
comprised of the Micron TransPort, the Company's modular design multimedia
notebook product introduced in the third quarter of fiscal 1996.
Overall average selling prices for the Company's PC systems were
approximately 7% lower in the second quarter of fiscal 1997 compared to the
second quarter of fiscal 1996 and were adversely affected by a decline in
pricing for RAM products, but were favorably affected by an increase in
unit sales of relatively higher priced notebook systems as a percent of
total PC system sales. Desktop average selling prices were adversely
affected from general price reductions and the introduction by the Company
of the relatively lower priced Client Pro PC systems.
Sales of PC systems in the second quarter of fiscal 1997 were
approximately 18% higher compared to the first quarter of fiscal 1997,
primarily as a result of an increase in units sold during the December
holiday season and slightly higher overall average selling prices. Overall
unit sales were 13% higher in the second quarter of fiscal 1997 compared to
the first quarter of fiscal 1997, and were 37% higher to non-governmental
entities comparing the same periods. Sales of PC systems incorporating
Pentium Pro microprocessors and Pentium microprocessors with MMX technology
represented approximately 14% and 10%, respectively, of total PC units sold
in the second quarter of fiscal 1997. See "Certain Factors-Personal
Computer Systems-Dependence on Key Sources of Supply."
In the second quarter of fiscal 1996, the Company decided to discontinue
the manufacture and sale of ZEOS brand PC systems and to close the related
manufacturing operation in Minneapolis, Minnesota. As a percentage of
total sales of PC systems, sales of ZEOS brand PC systems in the second
quarter and first six months of fiscal 1996 were approximately 8% and 14%,
respectively.
9
<PAGE>
Contract Manufacturing. Revenue from the Company's contract
manufacturing operation in the second quarter and first six months of
fiscal 1997 was approximately 34% and 41% lower, respectively, compared to
the corresponding periods in 1996, primarily due to the effect of the sharp
industry-wide decline in pricing for semiconductor memory products. The
Company shifted its product mix from memory intensive products toward
relatively more complex printed circuit boards and system level assemblies.
In addition, the Company increased its level of production of complex
printed circuit boards compared to the level of memory intensive products.
The Company's revenue from the assembly of memory intensive products in the
second quarter and first six months of fiscal 1997 was approximately 40%
and 42%, respectively, of total contract manufacturing revenue compared to
approximately 79% and 81%, respectively, in the second quarter and first
six months of fiscal 1996.
Contract manufacturing revenue was approximately 38% higher in the
second quarter of fiscal 1997 compared to the first quarter of fiscal 1997
primarily due to the growth in business from the Company's top five
customers. In the second quarter of fiscal 1997 compared to the first
quarter of 1997, the Company experienced higher production volumes at its
Nampa, Idaho, Durham, North Carolina and Penang, Malaysia facilities and
saw a shift toward higher priced, more complex assembly services and
products.
The Company continues to rely on a relatively small number of customers
for a significant portion of its contract manufacturing business. Revenue
from the Company's top five contract manufacturing customers in the second
quarter of fiscal 1997 was approximately 84% of total contract
manufacturing revenue compared to approximately 70% in the corresponding
period in 1996. Revenue from the Company's largest contract manufacturing
customer represented approximately 40% of the Company's total contract
manufacturing revenue in the second quarter of fiscal 1997. Revenue from
the Company's largest contract manufacturing customer in the corresponding
period in 1996 represented approximately 31% of the Company's total
contract manufacturing revenue. Contract manufacturing revenue from MTI
was approximately 4% of total contract manufacturing revenue in the second
quarter of fiscal 1997 and was 7% in the corresponding period in 1996. See
"Certain Factors-Contract Manufacturing-Customer Concentration."
SpecTek Memory Products. Net sales of reduced specification
semiconductor memory products in the second quarter and first six months of
fiscal 1997 by SpecTek, the Company's component recovery operation, were
approximately 41% and 40% lower, respectively, compared to the
corresponding periods in 1996, primarily due to a sharp industry-wide
decline in pricing for semiconductor memory products. These effects were
partially offset by a 142% and a 165% increase in megabits of memory
products shipped in the second quarter and first six months of fiscal 1997,
respectively, compared to the corresponding periods in 1996. Increased
shipments were made possible by a shift in product mix to higher density
components, the acquisition and utilization of additional test equipment
and reduced component test times. Sales of reduced specification memory
products were approximately 26% higher in the second quarter of fiscal 1997
compared to the first quarter of fiscal 1997 primarily due to an increase
in average selling prices for SpecTek's memory products and a slight
increase in the volume of memory shipped. SpecTek's operations are
influenced by a number of factors including pricing for, and availability
of, reduced specification memory components. See "Certain Factors-SpecTek
Memory Products Operation."
Historically, a substantial majority of the reduced specification memory
components used in SpecTek's operation has been obtained from MTI. In the
second quarter of fiscal 1997, the Company obtained approximately 81% of
its reduced specification memory components from MTI, compared to
approximately 64% in the corresponding period in 1996 and 71% in the first
quarter of fiscal 1997, with a substantial majority of the remainder
purchased from a single third-party alternative source. Purchases from
alternative sources are generally negotiated on a purchase order basis and
there can be no assurance that the Company will be able to negotiate future
purchases from alternative sources on terms acceptable to the Company.
Unless the Company is able to obtain significant quantities of reduced
specification memory components from alternative sources, the Company's
SpecTek memory products operation could be limited to the volume of reduced
specification memory components supplied by MTI. Changes in MTI's
semiconductor manufacturing processes resulting in improvement of device
yields and/or changes in product mix and specifications, or other changes
or events at MTI adversely affecting its overall manufacturing output,
could adversely affect the volume of reduced specification memory
components supplied to the Company. Any reduction in the availability or
functionality of reduced specification memory components from MTI or other
suppliers could have a material adverse effect on the Company's business
and results of operations. See "Certain Factors-SpecTek Memory Products
Operation-Dependence on Component Recovery Agreement with MTI."
10
<PAGE>
Gross Margin
<TABLE>
<CAPTION>
Second Quarter Six Months
---------------------------------- ----------------------------------
1997 1996 1997 1996
---------------- ---------------- ---------------- ----------------
% of % of % of % of
Amount Sales Amount Sales Amount Sales Amount Sales
--------- ----- --------- ----- --------- ----- --------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
PC systems $ 72,072 17.6% $ 23,422 7.9% $ 140,102 18.5% $ 56,703 9.5%
Contract manufacturing 9,401 13.2% 8,923 8.2% 15,981 13.0% 18,940 9.1%
SpecTek memory products 10,142 34.6% 16,665 33.4% 15,982 30.3% 32,079 36.4%
--------- --------- --------- ---------
Total gross margin $ 91,615 18.0% $ 49,010 10.7% $ 172,065 18.5% $ 107,722 12.0%
========= ========= ========= =========
</TABLE>
The Company's overall gross margin increased significantly in the second
quarter and first six months of fiscal 1997 compared to the corresponding
periods in 1996 primarily as a result of a higher gross margin percentage
realized from the Company's PC operation and a higher level of PC system
sales as a percent of total sales, partially offset by a lower gross margin
provided by the SpecTek memory products operation. Although the Company's
gross margin was $11.2 million higher in the second quarter of fiscal 1997
compared to the first quarter of fiscal 1997, the overall gross margin
percentage was lower due primarily to the reduction in the gross margin
percentage realized in the Company's PC operation.
Personal Computer Systems. The gross margin amount provided by the
Company's PC operation in the second quarter and first six months of fiscal
1997 was approximately 208% and 147% higher, respectively, compared to the
corresponding periods in 1996 principally due to a significantly higher
gross margin percentage realized on sales of PC systems coupled with a
higher level of unit sales of PC systems. The higher gross margin
percentage for sales of the Company's PC systems in the second quarter and
first six months of fiscal 1997 compared to the corresponding periods in
1996 was primarily due to improved component costs, particularly for RAM
products, and, to a lesser extent, an increase in unit sales of notebook
systems. Due to the sharp industry-wide decline in pricing for
semiconductor memory products, the Company's cost of RAM products decreased
significantly beginning at the end of the first quarter of fiscal 1996.
Costs for components, particularly RAM, declined at rates faster than
reductions in selling prices for the Company's PC systems. There can be no
assurance that the Company's future cost of components will decrease at
rates comparable to those in recent periods, or at all, or that the
Company's selling prices for its PC systems will not decrease at rates
faster than the rate of decline in component costs. Increased sales of the
Company's notebook products favorably affected the Company's gross margin
percentage for sales of PC systems. Notebook products generally have
historically experienced higher selling prices and gross margins compared
to the balance of the Company's PC systems. There can be no assurance,
however, that the Company's notebook products will continue to experience
higher selling prices and gross margins compared to the balance
of the Company's PC systems. The higher level of sales to governmental
entities in the second quarter and first six months of fiscal 1997 compared
to the corresponding periods in fiscal 1996 had an adverse effect on the
Company's overall PC gross margin percentage, as these sales generally have
lower gross margin percentages than the balance of the Company's PC sales.
The gross margin percentage realized on sales of PC systems in the second
quarter of fiscal 1996 was adversely affected by premature price reductions
offered for certain systems in anticipation of lower component costs and by
losses experienced on the disposition of excess component inventory.
The Company's gross margin percentage realized on sales of PC systems was
lower in the second quarter of fiscal 1997 than the 19.7% realized in the
first quarter of fiscal 1997, primarily due to a lower gross margin
percentage on sales of notebook products, Gross margin percentage in the
second quarter of fiscal 1997 was adversely affected by the Company's
decision to aggressively lower the selling prices for its initial Micron
brand notebook as the Company transitioned to successive notebook products.
The Company continues to experience significant pressure on its gross
margins as a result of intense competition in the PC industry and consumer
expectations of more powerful PC systems at lower prices. In recent weeks,
the Company has experienced and increase in costs of RAM products included
in its PC systems, which may have an adverse effect on the Company's future
gross margin percentage. In addition, the Company's gross margin percentage
will continue to depend in large part on its ability to effectively manage
its inventories of PC system components. See "Certain Factors-Personal
Computer Systems-Competition in the PC Industry" and "Certain Factors-Personal
Computer Systems-Inventory Management."
In September 1996, the Company entered into a license agreement and,
through MTI, became licensed under another agreement, each providing for
the use of certain technology in the Company's operations. The costs of
intellectual property rights used in the manufacture of the Company's PC
systems as a percent of net sales of PC systems in the second quarter and
first six months of fiscal 1997 were approximately 1.5% lower compared to
the corresponding periods in 1996. Future charges for intellectual
property rights may fluctuate, however, as a result of the resolution of
asserted claims of infringement and claims that may be asserted in the
future. In addition, the Company's rights under its license agreement
obtained through MTI may terminate in the event that the Company is no
longer a majority-owned subsidiary of MTI. See "Certain Factors-General-
Intellectual Property Matters."
11
<PAGE>
Contract Manufacturing. The gross margin percentage realized from the
Company's contract manufacturing operation in the second quarter and first
six months of fiscal 1997 was higher compared to the corresponding periods
in 1996 primarily due to a shift in product mix from memory intensive
products toward relatively more complex printed circuit board assemblies
and from a greater concentration in 1997 of assembly services based on
consignment rather than turnkey arrangements with customers.
SpecTek Memory Products. The gross margin percentage realized by
SpecTek declined in the second quarter of fiscal 1997 approximated that
realized in the second quarter of fiscal 1996. A significant decline in
average selling prices for semiconductor memory products was substantially
offset by generally lower costs of nonstandard RAM components, including
those obtained under the Component Recovery Agreement with MTI. Under this
agreement, costs of reduced specification memory components in fiscal 1997
were generally determined as one-half of the net operating income generated
from sales of reduced specification memory products obtained from MTI.
Prior to fiscal 1997, costs of reduced specification memory components
obtained from MTI were generally equal to one-half the price realized from
sales of such components. The gross margin percentage realized on sales of
reduced specification memory products during the first six months of fiscal
1997 decreased compared to the corresponding period in 1996 principally due
to the industry-wide decline in selling prices for semiconductor memory
products. The effect of the decline in selling prices was partially offset
by generally lower costs for nonstandard RAM components obtained from MTI
under the Component Recovery Agreement and components purchased from other
sources. See "Certain Factors-SpecTek Memory Products Operation-Dependence
on Component Recovery Agreement with MTI."
The gross margin percentage realized by the Company's SpecTek memory
products operation in the second quarter of fiscal 1997 was higher than the
gross margin percentage of 25.0% realized in the first quarter of fiscal
1997, primarily due to an increase in average selling prices for the
Company's semiconductor memory products.
In the event that average selling prices for SpecTek's memory products
decline further, the gross margin percentage for the SpecTek memory
products operation could decline and overall results of operations could be
adversely affected. See "Certain Factors SpecTek Memory Products
Operation Pricing of RAM Products." In the event that the Company is
unable to obtain additional sources of supply of reduced specification
memory components or to maintain its existing sources of supply, the
Company's SpecTek memory products operation gross margin and gross margin
percentage could decline and overall results of operations could be
adversely affected. See "Certain Factors-SpecTek Memory Products
Operation-Dependence on Component Recovery Agreement with MTI."
Selling, General and Administrative
<TABLE>
<CAPTION>
Second Quarter Six Months
------------------------- -------------------------
1997 Change 1996 1997 Change 1996
------------------------- -------------------------
<S> <C> <C> <C> <C> <C> <C>
Selling, general and
administrative $ 47,517 45.6% $ 32,637 $ 87,343 36.4% $ 64,024
as a % of net sales 9.3% 7.1% 9.4% 7.2%
</TABLE>
Selling, general and administrative ("SG&A") expenses increased in
absolute dollars and as a percent of net sales in the second quarter and
first six months of fiscal 1997 compared to the corresponding periods in
1996 primarily due to higher levels of personnel associated with growth in
the Company's PC operation and costs associated with the Company's profit
sharing programs and increased advertising for the Company's PC operation.
SG&A expenses in the first six months of fiscal 1996 included approximately
$1.2 million of goodwill amortization, reflecting charges prior to the
write-off of unamortized goodwill in connection with the Company's
restructuring charge relating to the discontinuance of its ZEOS brand
products in the second quarter of fiscal 1996.
SG&A expenses increased in absolute dollars but decreased as a percentage
of net sales in the second quarter of fiscal 1997 compared to the first
quarter of fiscal 1997, primarily as a result of the approximately 21%
increase in net sales without a commensurate increase in SG&A expenses.
12
<PAGE>
Income Tax Provision (Benefit)
<TABLE>
<CAPTION>
Second Quarter Six Months
------------------------- -------------------------
1997 Change 1996 1997 Change 1996
------------------------- -------------------------
<S> <C> <C> <C> <C> <C> <C>
Income tax provision
(benefit) $ 16,761 N/A $ (860) $ 32,960 222.6% $ 10,217
</TABLE>
The effective income tax rate was 38.5% for the first six months of
fiscal 1997, principally reflecting the federal statutory rate and the net
effect of state taxes. The Company's effective income tax rate of 71.6%
for the corresponding period in 1996 principally reflected the federal
statutory rate, the effect of the write-off of non-deductible goodwill
during the second quarter of fiscal 1996 of $11.4 million and the net
effect of state taxes. In the second quarter of fiscal 1997, the Company
reduced its estimated annual effective tax rate from 39.5% to 38.5% as a
result of an increase in the estimated level of state tax credits available
to the Company and the effect of sales to foreign countries.
Liquidity and Capital Resources
As of February 27, 1997, the Company had cash and cash equivalents of
$200.3 million, representing an increase of $84.5 million from August 29,
1996. Principal sources of liquidity in the first six months of fiscal
1997 were cash flows from operations of $66.8 million, net proceeds of
$49.1 million from the issuance of common stock and borrowings of $4.6
million under equipment financing arrangements. Principal uses of cash in
1997 were property, plant and equipment expenditures of $34.3 million for
expansion and capacity improvements of the Company's manufacturing
operations and repayment of debt of $1.8 million.
During the second quarter of fiscal 1997, the Company completed the sale
of 3.0 million shares of its common stock in an underwritten public
offering. Net proceeds of approximately $48.2 million were received by the
Company. In the public offering, MTI sold approximately 12.4 million
shares thereby reducing its ownership of the Company to approximately 64%.
In connection with the offering, MTI, the Company and certain officers and
directors of the Company have each agreed that they, without the prior consent
of the managing underwriters of the public offering, will not offer to sell,
contract to sell or otherwise dispose of any common stock of the Company,
for a period of 90 days after February 12, 1997, except pursuant to the
Company's stock option or purchase plans existing as of February 12, 1997.
The Company has an unsecured revolving credit facility with MTI which
provides for borrowings of up to $80.0 million, based on the Company's
tangible net worth. As of February 27, 1997, the Company was eligible to
borrow approximately $80.0 million under the facility, but had no
borrowings outstanding. In addition, the Company has an unsecured
revolving credit facility with two financial institutions providing for
borrowings of up to $40.0 million, based on the amount of the Company's
eligible receivables. As of February 27, 1997, the Company was eligible to
borrow $40.0 million under this credit facility, but had no borrowings
outstanding. On October 11, 1996, the Company filed a registration
statement with the Securities and Exchange Commission allowing for the
issuance from time to time by the Company of debt and/or equity securities
with a value of up to $75 million, of which approximately $48.5 million has
been issued. The proceeds from any such issuance may be used for general
corporate purposes. The registration statement also allowed for an
additional $250 million of outstanding common stock of the Company to be
sold by certain existing shareholders, consisting of MTI and certain
management employees, of which approximately $212.9 million has been
issued.
As of February 27, 1997, the Company had capital expenditure commitments
of approximately $24.5 million for expansion and upgrade of facilities and
equipment. The Company anticipates that its capital expenditures in the
remainder of fiscal 1997 will approximate $45 million. The Company
recently began construction of an approximately 300,000 square foot facility
in Nampa, Idaho for planned expansion of its PC operation, and the Company
expects that the cost of construction will total approximately $35 million.
This facility is expected to approximately double the Company's current PC
manufacturing space and it is anticipated to be in production by the end of
calendar 1997.
13
<PAGE>
The Company expects that its future working capital requirements will
continue to increase and believes that currently available cash and cash
equivalents, future cash flows from operations, current credit facilities
and future equipment financing will be sufficient to fund its operations
through fiscal 1997. However, maintaining an adequate level of working
capital through the end of fiscal 1997 and thereafter will depend in large
part on the success of the Company's products in the marketplace and the
Company's ability to control inventory levels, component costs and other
operating expenses. The Company may require additional financing for
growth opportunities, including any internal expansion that the Company may
undertake, expansion and capacity enhancements to additional sites, or
strategic acquisitions or partnerships. There can be no assurance that any
financing will be available on terms acceptable to the Company, or at all.
Certain Factors
In addition to factors discussed elsewhere in this Form 10-Q, the
following are important factors which could cause actual results or events
to differ materially from the historical results of the Company's
operations or those results or events contained in any forward-looking
statements made by or on behalf of the Company.
General
Fluctuations in Operating Results
The Company's past operating results have been, and its future operating
results may be, subject to seasonality and other fluctuations, on a
quarterly and an annual basis, as a result of a wide variety of factors,
including, but not limited to, critical component availability,
manufacturing and production constraints, fluctuating component costs,
fluctuating market pricing for PC and semiconductor memory products,
industry competition, the timing of new product introductions by the
Company and its competitors, availability of nonstandard RAM components,
inventory obsolescence, seasonal cycles common in the PC industry, seasonal
government purchasing cycles, the effects of product reviews and industry
awards, changes in product mix and the timing of orders from and shipments
to OEM customers. As a result, the operating results for any particular
period are not necessarily indicative of the results that may occur in any
future period.
Management of Growth
In recent periods, the Company has experienced rapid revenue growth and
an expansion in the number of its employees, in the breadth and complexity
of its management, operating and financial information systems and in its
geographic scope of operations. This growth has resulted in new and
increased responsibilities for the Company's management and has placed, and
continues to place, significant demands upon the Company's management,
operating and financial information systems, technical support systems and
other resources. The Company continues to consider various expansion
alternatives, including expansion of facilities, acquisition or
establishment of facilities in new geographic regions and certain
strategic relationships. The Company currently is expanding its PC
operation facilities in Nampa, Idaho and has recently opened a PC sales and
technical support call center in Japan and a contract manufacturing
operation in Malaysia. There can be no assurance that the Company's
management resources, operating and financial information systems,
technical support systems and other resources will be adequate to support
the Company's existing or future operations. Any failure to effectively
monitor, implement or improve the Company's operational, financial,
management and technical support systems could have a material adverse
effect on the Company's business and results of operations.
Control by MTI
As of February 27, 1997, MTI owned approximately 64% of the Company's
outstanding common stock. In addition, four of the eight directors of the
Company are also directors of MTI, including Steven R. Appleton, Chairman
and Chief Executive Officer of MTI. So long as MTI continues to own a
majority of the outstanding common stock of the Company, MTI will have the
ability to control the outcome of matters requiring shareholder approval,
including the election of directors, and generally will have the ability to
control the management and certain financial and other affairs of the
Company. Termination of certain of the Company's arrangements by MTI or
MTI exercising its control in negotiating arrangements resulting in terms
less favorable to the Company could adversely affect the Company's business
and results of operations. In the event that MTI's ownership of the
Company were to decrease below certain levels, certain of the Company's
arrangements with MTI could terminate, which could have a material adverse
effect on the Company's business and results of operations. See
"Intellectual Property Matters" and "SpecTek Memory Products
Operation-Dependence on Component Recovery Agreement."
14
<PAGE>
Intellectual Property Matters
It is common in the electronics industry for patent, trademark and other
intellectual property rights claims to be asserted against companies,
including component suppliers and PC manufacturers. Periodically, the
Company is made aware that technology used by the Company may infringe on
intellectual property rights held by others. The Company evaluates all
such claims and, if necessary, obtains licenses for the continued use of
such technology. The Company has accrued a liability and charged
operations for the estimated costs of settlement or adjudication of
asserted and unasserted claims for alleged infringement prior to the
balance sheet date. The Company would be placed at a competitive
disadvantage if it were unable to obtain such licenses upon terms at least
as favorable as those experienced by the Company's competitors. The
Company has entered into several patent and software license agreements,
which generally require one-time or periodic royalty payments and are
subject to expiration at various times. The Company is unable to predict
whether any of these license agreements can be obtained or renewed on terms
acceptable to the Company. If the Company or its suppliers are unable to
obtain or provide licenses necessary to use technology or software in their
products or processes, the Company may be forced to market products without
certain technological features or software, discontinue sales of certain of
its products or defend legal actions taken against it relating to allegedly
protected technology. The inability of the Company to obtain licenses
necessary to use certain technology, or an inability to obtain such
licenses on competitive terms, or any litigation determining that the
Company, in the manufacture or sale of its products, has infringed on the
intellectual property rights held by others, could have a material adverse
effect on the Company's business and results of operations.
The Company, as a majority-owned subsidiary of MTI, benefits from certain
license agreements between MTI and third parties. The Company makes
payments to MTI relating to certain of such agreements. The Company's
rights under such agreements may terminate in the event that the Company is
no longer a majority-owned subsidiary of MTI. In the event of any such
termination, the inability of the Company independently to obtain such
rights on similar terms could have a material adverse effect on the
Company's business and results of operations.
International Operations
Approximately 7% of the Company's net sales for the second quarter of
fiscal 1997, compared to approximately 5% in the first quarter of fiscal
1997 and approximately 10% for the fiscal year ended August 29, 1996, were
attributable to sales outside the United States. Although the Company's
international sales in the first six months of fiscal 1997 were adversely
affected by a decrease in sales of its PC systems through distributors in
Japan as the Company initiated direct sales of PC systems through its
Japanese call center, the Company believes international sales as a
percentage of total sales will increase in the future, particularly for PC
systems and contract manufacturing services. In marketing its PC systems
in foreign countries, the Company uses either direct selling or indirect
selling through distributors, depending on consumer preferences, local
infrastructure, language and marketing methods. There can be no assurance
that the Company's primary sales and marketing methods through the direct
sales channel in the Japanese call center will result in sales at levels that
meet or exceed past levels of sales to Japan experienced by the Company.
The Company has established a contract manufacturing operation in Penang,
Malaysia, and the Company continues to evaluate the benefits and risks
associated with overseas manufacturing for its PC and contract
manufacturing operations. The new contract manufacturing operation in
Malaysia completed its first product shipment in the second quarter of
fiscal 1997. There can be no assurance that the establishment of the Japan
and Malaysia operations or any other international expansion will be
successful, and any failure by the Company to achieve success in
international operations could have a material adverse effect on the
Company's business and results of operations. The Company's international
operations are subject to a number of other risks, including, without
limitation, fluctuations in the value of currencies, export duties, import
controls, trade barriers, restrictions on funds transfer, greater
difficulty in accounts receivable collections, political and economic
instability and compliance with foreign laws.
Dependence on Key Personnel
The future success of the Company will depend, in part, on its ability to
attract and retain key management and technical personnel. The Company
attempts to enhance its management and technical expertise by recruiting
qualified individuals who possess desired skill sets and experience in
certain targeted areas. There is competition for such personnel in the
electronics industries, and the Company's inability to retain employees
and attract and retain sufficient additional employees, particularly in the
areas of engineering, information technology and technical support resources,
could have a material adverse effect on the Company's business and results of
operations. The Company does not currently maintain "key man" life
insurance with respect to any of its employees. There can be no assurance
that the Company will not lose key personnel or that the loss of any key
personnel will not have a material adverse effect on the Company's business
and results of operations.
15
<PAGE>
Concentration of Ownership of Common Stock of the Company
Due to MTI's ownership of approximately 64% of the outstanding shares of
the Company's common stock as of February 27, 1997, only a limited
percentage of common stock of the Company is traded in the public market,
which limits the trading liquidity of the common stock of the Company and
may limit the Company's ability to complete future equity financings. The
sale on the open market of substantial amounts of shares of common stock of
the Company currently held by MTI could adversely affect the prevailing
market prices of common stock of the Company. MTI's ability to sell shares
of common stock of the Company, unless registered under the Securities Act
of 1933, as amended (the "Securities Act"), is subject to volume and other
restrictions pursuant to Rule 145 promulgated under the Securities Act. In
connection with an underwritten public offering of shares of the Company's
common stock, MTI, the Company and certain officers and directors of the
Company have each agreed that they, without the prior consent of the managing
underwriters of the public offering, will not offer to sell, contract to sell
or otherwise dispose of any common stock of the Company, for a period of 90
days after February 12, 1997, except pursuant to the Company's stock option
or purchase plans existing as of February 12, 1997.
Volatility of Stock Price
The trading prices of the common stock of the Company and the stock of
other companies primarily engaged in the PC industry have had a history of
significant volatility. The trading price of the common stock of the
Company is subject to significant fluctuations due to general market
conditions in the PC industry, announcements of technological innovations,
new commercial products or new strategies by competitors, component
availability and pricing, the significant number of shares of common stock
of the Company eligible for future sale into the public market or other
factors. The stock market generally has experienced significant price and
volume fluctuations, and such fluctuations have impaired stock prices for many
high technology companies. These broad market fluctuations, as well as
general economic conditions and the financial performance of the Company,
may adversely affect the market price of the common stock of the Company.
Personal Computer Systems
Competition in the PC Industry
The PC industry is highly competitive and has been characterized by
intense pricing pressure, rapid technological advances in hardware and
software, frequent introduction of new products, low gross margin
percentages and rapidly declining component costs. Competition in the PC
industry is based primarily upon performance, price, reliability, service
and support. The Company believes that the rate of growth in worldwide
sales of PC systems, particularly in the United States, where the Company
sells a substantial majority of its PC systems, has declined and may remain
below the growth rates experienced in recent years. Any general decline in
demand, or a decline in the rate of increase of demand, for PC systems
could increase price competition and could have a material adverse effect
on the Company's business and results of operations. To remain
competitive, the Company must frequently introduce new products and price
its products and offer customers lead times comparable to its competitors.
In addition, to remain competitive, the Company generally reduces the
selling prices of its PC systems in connection with declines in costs of
components. The Company competes with a number of PC manufacturers which
sell their products primarily through direct channels, including Dell
Computer, Inc. and Gateway 2000, Inc. The Company also competes with PC
manufacturers, such as Apple Computer, Inc., Compaq Computer Corporation,
Hewlett-Packard Company, International Business Machines Corporation and
Toshiba Corporation among others, which have traditionally sold their
products through national and regional distributors, dealers and value
added resellers, retail stores and direct sales forces. Many of the
Company's PC competitors offer broader product lines, have substantially
greater financial, technical, marketing and other resources than the
Company and may benefit from component volume purchasing arrangements that
are more favorable in terms of pricing and component availability than the
arrangements enjoyed by the Company. In addition, as a result of PC
industry standards, the Company and its competitors generally use many of
the same components, typically from the same set of suppliers, which limits
the Company's ability to technologically and functionally differentiate its
products. In the future, the Company expects to face increased competition
in the U.S. direct sales market from foreign PC suppliers and from
domestic suppliers of PC products that decide to implement, or devote
additional resources to, a direct sales strategy. In order to gain an
increased share of the U.S. PC direct sales market, these competitors may
effect a pricing strategy that is more aggressive than the current pricing
in the direct sales market. The Company's ability to continue to produce
competitively priced products and to maintain existing gross margin
percentages will depend, in large part, on the Company's ability to sustain
high levels of sales and control inventory levels, component cost and other
operating expenses. Any failure by the Company to transition to new
products effectively or to accurately forecast demand for its products may
have a material adverse effect on the Company's business and results of
operations.
16
<PAGE>
Inventory Management
The Company's ability to compete successfully in the PC market in the
future will depend in large part on its ability to effectively manage its
inventories of PC components. The Company's PC operations focus on the
direct sale of assemble-to-order PC systems that feature components
incorporating the latest technological developments in the PC industry.
Although the Company's level of inventories decreased from the end of the
first quarter of fiscal 1997 to the end of the second quarter of fiscal
1997, the Company has experienced a significant increase in the level
of inventories since the fourth quarter of fiscal 1996. The Company
has experienced in the past, and could experience in the future,
inventory obsolescence resulting from, among other things, the fast pace of
technological developments in the PC industry and the short product life
cycles of PC systems and components. In addition, because high volumes of
quality components are required for the manufacture of the Company's PC
systems, the Company has experienced in the past, and expects to experience
in the future, shortages and other supply constraints of key components.
Such shortages or supply constraints have in the past adversely affected,
and could in the future adversely affect, the Company's ability to ship
products on schedule or at expected gross margins. To be successful in the
future, the Company must accurately anticipate demand for its products and
obtain adequate supplies of components to meet such demand. The failure of
the Company to manage its inventories effectively could result in inventory
obsolescence, excess inventories, component shortages and untimely shipment
of products, any of which could have a material adverse effect on the
Company's business and results of operations.
From time to time, the Company has been unable to obtain sufficient
quantities of certain critical components to permit the Company to meet
demand for its products. Sales of PC systems in the first six months of
fiscal 1997 were adversely affected by shortages of certain Intel Pentium
Pro microprocessors and certain high-performance disk drives. There can be
no assurance that imbalances between supply and demand for microprocessors or
any other critical components will not occur in the future or that the
Company will be able to obtain these components from Intel or other parties in
quantities sufficient to meet demand within the near or longer term at
competitive prices or at all. In the event that these components are
unavailable to the Company in sufficient quantities at competitive prices
in the future, the Company may need to modify its product offerings, which,
in turn, could adversely affect the Company's business and results of
operations.
Short PC Product Life Cycles
To maintain a competitive position in the PC industry, the Company must
introduce new products and features that address the needs and preferences
of customers in its target markets. The PC industry is characterized by
short product life cycles resulting from rapid changes in technology and
consumer preferences and declining product prices. To remain competitive,
the Company must frequently introduce new products and features. There can
be no assurance that these products or features will be successful, that
the introduction of new products or features by the Company or its
competitors will not materially and adversely affect the sale of, or gross
margins on, the existing products of the Company or that the Company will
be able to adapt to future changes in the PC industry. The Company does
not maintain a significant research and development group. Instead, the
Company strives to work closely with PC component suppliers and other
technology developers to evaluate the latest developments in PC-related
technology. There can be no assurance that the Company will continue to
have access to new technology, will be successful in incorporating new
technology in its products or will be able to deliver commercial quantities
of new products or features in a timely and cost-effective manner.
17
<PAGE>
Dependence on Key Sources of Supply
The Company purchases substantially all of its PC components and
subassemblies from suppliers on a purchase order basis and generally does
not have long-term supply arrangements with its suppliers. Certain
components, subassemblies and software included in the Company's PC systems
are obtained from sole suppliers or a limited number of suppliers. The
microprocessors used in the Company's PC systems are manufactured
exclusively by Intel. In addition, the Company currently purchases a
significant majority of its motherboards from a single source. A
significant portion of the RAM components used in the Company's PC systems
are supplied by MTI, and the Company expects to continue to rely on MTI as
its primary source of RAM components. The Company focuses on providing PC
systems that feature components incorporating the latest technological
developments in the PC industry, which components are periodically in short
supply and are available from sole or a limited number of suppliers. As a
result, the Company has experienced in the past, and expects to experience
in the future, shortages in the components and subassemblies used in its PC
systems. From time to time, the Company has been unable to obtain
sufficient quantities of certain Intel microprocessors and in recent weeks,
the Company has experienced an increase in costs of RAM products included in
its PC systems. Sales of PC systems in the first six months of fiscal 1997
were directly affected by shortages of certain Intel Pentium Pro
microprocessors and certain high-performance disk drives. The Company relies,
to a certain extent, upon its suppliers' abilities to enhance existing
products in a timely and cost-effective manner, to develop new products to
meet changing customer needs and to respond to emerging standards and other
technological developments in the PC industry. The Company's reliance on a
limited number of suppliers and on a strategy of incorporating the latest
technological developments into its PC systems involves several risks,
including the possibility of shortages and/or increases in costs of components,
subassemblies and software, and risk of reduced control over delivery
schedules, which could have a material adverse effect on the Company's
business and results of operations.
The Company's TransPort notebook PC systems are currently assembled by a
single third-party manufacturer. This outsourcing arrangement and any
future outsourcing arrangements that the Company may enter into may reduce
the direct control the Company has over certain components and the assembly
of such products. It is uncertain what effect such limited control will
have over the quality of the products manufactured, the Company's ability
to ship such products on a timely basis or the flexibility of the Company
to respond to changing market conditions. Moreover, although arrangements
with such manufacturers may contain provisions for warranty obligations on
the part of such manufacturers, the Company remains primarily responsible
to the consumer for warranty obligations. Any unanticipated product defect
or warranty obligation, whether pursuant to arrangements with third-party
manufacturers or otherwise, could adversely affect the Company's business
and results of operations.
State Taxation
Several states have enacted legislation which would require out of state
direct marketers to collect and remit sales and use taxes based on certain
limited contacts with the state. Taxation authorities in certain states
have, from time to time, solicited information from the Company to
determine whether the Company has sufficient contacts with such states to
require payment of sales and use taxes on its PC systems sold to customers
in those states. The Company could be required to pay sales and use taxes,
and income and franchise taxes related to the Company's operations in prior
periods, which could have a material adverse effect on the Company's
business and results of operations. In addition, the Company may be
increasing its contacts and presence in various states as it pursues its
business strategies. As a result of its contacts, the Company may be
required to collect and remit sales and use taxes in the future, which
could have a material adverse effect on the Company's business and results
of operations.
Reliance on the Direct Sales Approach
The Company primarily markets its PC systems directly to individuals,
small and medium-sized businesses and governmental and educational entities
through advertisements in PC trade publications, direct-mail campaigns and
on the Internet. Direct sales orders are received primarily by telephone
by the Company's sales representatives who review configuration options and
pricing with the customer. The direct sales approach may make it difficult
for the Company to penetrate specific markets and may be less appealing to
first-time PC buyers than other sales channels. In addition, the Company's
ability to increase future sales of PC systems is dependent in part on the
growth of the direct sales channel. The Company believes that to retain
customer interest in its PC systems and brand name recognition of its
products, the Company must continue to offer products, services and support
which are recognized by trade publications for overall performance, price,
reliability and quality. There can be no assurance that the name recognition
and market acceptance of the Company's PC products will not decline in the
future, which could have a material adverse effect on the Company's
business and results of operations. There can be no assurance that direct
sales of PC systems as a percentage of industry-wide PC sales will increase
or that the Company will increase its share of the direct sales market in
the future. There can be no assurance that the Company's direct sales
strategy will be successful in international markets or that PC companies
that currently distribute their PC products primarily through distributors
and resellers will not implement or devote additional resources to a direct
sales strategy. Any decline in the rate of growth of the PC direct sales
channel, or the Company's failure to compete successfully in the direct sales
channel, could have a material adverse effect on the Company's business and
result of operations.
18
<PAGE>
Investment in Customer Service and Technical Support Systems
The Company's PC operation has experienced significant growth in orders
for PC systems. The Company has from time to time experienced an increase
in the volume of customer service and technical support calls, which has
placed, and is expected to continue to place, a strain on the Company's
customer service and technical support systems. To remain competitive, the
Company must invest significant resources in the maintenance and
improvement of its customer service and technical support systems. Any
failure to maintain adequate customer service and technical support systems
could cause customer dissatisfaction with the Company. Customer
dissatisfaction could result in reduced sales of PC systems, which could
have a material adverse effect on the Company's business and results of
operations.
Government Regulation of the PC Industry
Prior to marketing its PC systems, the Company must receive certification
that such systems meet standards established by the Federal Communications
Commission and certain foreign agencies for radio frequency emissions. Any
delay or failure by the Company to obtain such certifications may delay or
prevent the Company from introducing new products on a timely basis, which
could have a material adverse effect on the Company's business and results
of operations. In addition, the U.S. Federal Trade Commission and the
Department of Commerce, along with similar foreign agencies in other
jurisdictions, have promulgated certain regulations that affect the
Company's shipping, advertising and general operations. Any failure by the
Company to comply with such regulations could result in significant
penalties, fines or marketing restrictions, which in turn could have a
material adverse effect on the Company's business and results of
operations.
Contract Manufacturing
Competition in the Contract Manufacturing Industry
The contract manufacturing industry is highly competitive. The Company's
contract manufacturing operation competes against numerous domestic and
offshore contract manufacturers, including a significant number of local
and regional companies. In addition, the Company competes against in-house
manufacturing capabilities of certain of its existing customers as well as
with certain large computer manufacturers which offer third-party contract
manufacturing services. The Company's contract manufacturing competitors
include, among others, Avex Electronics, Inc., Benchmark Electronics, Inc.,
Celestica Inc., DOVAtron International, Inc., Flextronics International,
Group Technologies Corporation, Jabil Circuits, Inc., Sanmina Corporation,
SCI Systems, Inc. and Solectron Corporation. Many of the Company's
competitors have substantially greater manufacturing, technical, financial,
personnel, marketing and other resources than the Company and have
manufacturing operations at multiple domestic and overseas locations.
The Company believes that the significant competitive factors in the
contract manufacturing industry include service, quality, price,
technology, location and the ability to offer flexible delivery schedules
and deliver finished products on an expeditious and timely basis in
accordance with customers' expectations. The Company may be at a
disadvantage as to certain competitive factors when compared to
manufacturers with greater resources than the Company, substantial offshore
facilities or substantially larger domestic facilities. While the Company
recently began operation of its first foreign contract manufacturing
facility, there can be no assurance that the Company's contract
manufacturing operation will compete successfully in the future with regard
to these factors. In order to remain competitive, the Company may be
required to expand its contract manufacturing capacity and may be required
to establish additional international operations. There can be no
assurance that the Company will be successful in expanding its contract
manufacturing operation on a timely and efficient basis, or at all. The
failure to do so could have a material adverse effect on the Company's
business and results of operations.
Fluctuations in OEM Orders
The Company's contract manufacturing customers generally require short
delivery cycles and quick turnaround for contract manufacturing services.
As the Company's OEM customers react to variations in demand for their
products and adjust their purchase orders to the Company, the Company may
be subject to non-cancelable purchase orders with its suppliers and may
recognize losses on write downs of inventories due primarily to the
specialized nature of certain custom components and declines in market
pricing of components. Changes in OEM orders have had an adverse effect on
the Company's contract manufacturing operation in the past and there can be
no assurance that the Company will not experience such adverse effects in
the future.
19
<PAGE>
Customer Concentration
Revenue from the Company's top five contract manufacturing customers in
the second quarter of fiscal 1997 was approximately 84% of total contract
manufacturing revenue compared to approximately 70% in the corresponding
period in 1996 and 66% in the first quarter of fiscal 1997. Revenue from
the Company's largest contract manufacturing customer represented
approximately 40% of the Company's total contract manufacturing revenue in
the second quarter of fiscal 1997. Revenue from the Company's largest
contract manufacturing customer in the corresponding period in 1996
represented approximately 31% of the Company's total contract manufacturing
revenue. Contract manufacturing revenue from MTI was approximately 4% of
total contract manufacturing revenue in the second quarter of fiscal 1997
compared to approximately 7% in the corresponding period in 1996 and 6% in
the first quarter of fiscal 1997. The Company expects to continue to
experience a high degree of contract manufacturing customer concentration.
The Company has no long-term agreements with any of its contract
manufacturing customers. The Company believes that its key contract
manufacturing customers may from time to time materially reduce
their purchases of the Company's contract manufacturing services in the
future. Although the Company has generally in the past been able to replace
such business with increased business from new or existing customers, there
can be no assurance that the Company will obtain sufficient alternative
business on a timely basis, and the failure to obtain such business could
have a material adverse effect on the Company's business and results of
operations.
Environmental Regulation
The Company's contract manufacturing operation is subject to a variety of
environmental regulations relating to the use, storage, discharge and
disposal of hazardous chemicals and waste water used during its
manufacturing processes. Any failure by the Company to comply with present
and future environmental regulations could subject it to liabilities or the
suspension of production. In addition, such regulations could limit the
ability of the Company's contract manufacturing operation to expand its
facilities or could require the Company to acquire costly equipment or
incur other significant costs any of which could have a material adverse
effect on the Company's business and results of operations.
SpecTek Memory Products Operation
Dependence on Component Recovery Agreement with MTI
Historically, a substantial majority of the nonstandard RAM components
used in the Company's SpecTek memory products operation has been obtained
from MTI. The Company and MTI are parties to a Component Recovery
Agreement, effective as of August 30, 1996 (the "Component Recovery
Agreement"), under which MTI is required to deliver to the Company all of
the nonstandard RAM components produced at MTI's semiconductor
manufacturing operations. The Company's cost of nonstandard components
under this agreement generally is determined as one-half of the
operating income generated from sales of reduced specification RAM products
supplied by MTI. There can be no assurance that MTI will continue to
produce adequate volumes of nonstandard RAM components to maintain the
Company's SpecTek memory products operation at existing or historic levels.
The Component Recovery Agreement, which expires September 2, 1999, may be
terminated by MTI in the event that MTI's ownership of the Company falls
below 30%. Expiration, termination or renegotiation of the Component
Recovery Agreement could have a material adverse effect on the Company's
business and results of operations. Changes in MTI's semiconductor
manufacturing processes resulting in improvement of device yields and/or
changes in the product mix or specifications of its memory components, or
other changes or events at MTI adversely affecting its overall
manufacturing output, could adversely affect the volume of nonstandard RAM
components supplied by MTI.
Many semiconductor memory manufacturers are reluctant to sell nonstandard
RAM components because such components could compete with their full
specification RAM components for similar applications. In addition, some
manufacturers are concerned that subsequent testing performed by a recovery
operation could reveal proprietary data regarding manufacturing yields and
processes. As a result, there can be no assurance that the Company will be
able to obtain nonstandard RAM components from semiconductor manufacturers
in quantities sufficient to meet demand for the Company's products. Any
reduction in the availability or functionality of nonstandard RAM
components from the Company's suppliers could have a material adverse
effect on the Company's business and results of operations.
20
<PAGE>
Pricing of RAM Products
Pricing for the Company's reduced specification RAM products fluctuates,
to a large degree, based on industry-wide pricing for semiconductor memory
products. The Company has experienced significant declines in the average
selling prices of its reduced specification RAM products as industry-wide
average selling prices for full specification semiconductor memory products
experienced a sharp decline. The Company believes that such decline in
average selling prices of semiconductor memory products was due primarily
to changes in the balance of supply and demand for these commodity
products, and the Company is unable to predict the impact of semiconductor
memory product market dynamics in future periods. Due to increased market
risk associated with holding purchased memory components in inventory, the
Company has experienced in the past, and may experience in the future,
losses from write downs of memory component inventories in periods of
declining prices. Further declines in pricing for semiconductor memory
products would likely result in declines in average selling prices of the
Company's reduced specification RAM products, which could have a material
adverse effect on the Company's business and results of operations.
21
<PAGE>
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) The following are filed as a part of this report:
Exhibit Description
------- -------------------------------------------
11 Computation of Per Share Earnings
(b) Reports on Form 8-K:
The registrant did not file any reports on Form 8-K during the quarter
ended February 27, 1997.
Micron Electronics, TransPort, and SpecTek are trademarks of the
Company, and ZEOS is a registered trademark of the Company. Intel and
Pentium are registered trademarks and MMX is a trademark of Intel
Corporation. All other trademarks are the property of their respective
holders.
22
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MICRON ELECTRONICS INC.
-----------------------------------------------
(Registrant)
Dated: March 20, 1997
/s/ T. Erik Oaas
-----------------------------------------------
T. Erik Oaas, Executive Vice President
Finance, and Chief Financial Officer
(Principal Financial and Accounting Officer)
23
EXHIBIT 11
Micron Electronics, Inc.
Computation of Per Share Earnings
(Amounts in thousands, except per share amounts)
<TABLE>
<CAPTION>
For the quarter ended For the six months ended
February 27, February 29, February 27, February 29,
1997 1996 1997 1996
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
PRIMARY
Weighted average shares
outstanding 92,988 91,507 92,726 91,424
Net effect of dilutive
stock options 642 - 548 947
--------- --------- --------- ---------
Number of shares used in
per share earnings 93,630 91,507 93,274 92,371
========= ========= ========= =========
Net income (loss) $ 27,839 $ (12,556) $ 52,651 $ 4,059
========= ========= ========= =========
Per share earnings (loss) $ 0.30 $ (0.14) $ 0.56 $ 0.04
========= ========= ========= =========
FULLY DILUTED
Weighted average shares
outstanding 92,988 91,507 92,726 91,424
Net effect of dilutive
stock options 642 - 609 940
--------- --------- --------- ---------
Number of shares used in
per share earnings 93,630 91,507 93,335 92,364
========= ========= ========= =========
Net income (loss) $ 27,839 $ (12,556) $ 52,651 $ 4,059
========= ========= ========= =========
Per share earnings (loss) $ 0.30 $ (0.14) $ 0.56 $ 0.04
========= ========= ========= =========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from
the accompanying financial statements and is qualified in its entirety
by reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> AUG-28-1997
<PERIOD-END> FEB-27-1997
<CASH> 200,325
<SECURITIES> 0
<RECEIVABLES> 166,634
<ALLOWANCES> 9,151
<INVENTORY> 107,561
<CURRENT-ASSETS> 490,771
<PP&E> 204,998
<DEPRECIATION> 58,450
<TOTAL-ASSETS> 637,455
<CURRENT-LIABILITIES> 282,812
<BONDS> 24,111
0
0
<COMMON> 955
<OTHER-SE> 329,179
<TOTAL-LIABILITY-AND-EQUITY> 637,455
<SALES> 931,292
<TOTAL-REVENUES> 931,292
<CGS> 759,227
<TOTAL-COSTS> 848,487
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (2,806)
<INCOME-PRETAX> 85,611
<INCOME-TAX> 32,960
<INCOME-CONTINUING> 52,651
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 52,651
<EPS-PRIMARY> 0.56
<EPS-DILUTED> 0.56
</TABLE>
