<PAGE>
- ------------------------------------------------------------------------------
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K/A
AMENDMENT NO. 1 TO FORM 10-K
(Mark one)
(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended: September 30, 1998
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: 0-17972
DIGI INTERNATIONAL INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 41-1532464
------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
11001 Bren Road East
Minnetonka, Minnesota 55343
--------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(612) 912-3444
----------------------------------------------------
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section
12(g) of the Act:
COMMON STOCK, $.01 PAR VALUE
(Title of each class)
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, and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of voting stock held by nonaffiliates of the
Registrant, based on a closing price of $10.188 per share as reported on the
National Association of Securities Dealers Automated Quotation
System-National Market System on December 11, 1998 was $133,199,994.
Shares of common stock outstanding as of December 11, 1998: 14,588,995
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<PAGE>
INDEX
Page
RESTATEMENT OF FINANCIAL STATEMENTS
AND CHANGES TO CERTAIN INFORMATION........................................ 3
PART I.
ITEM 1. Business........................................................ 4
ITEM 3. Legal Proceedings............................................... 7
PART II.
ITEM 6. Selected Financial Data......................................... 9
ITEM 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations................... 10
ITEM 8. Financial Statements and Supplementary Data..................... 25
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS................................ 31
REPORT OF MANAGEMENT...................................................... 55
REPORT OF INDEPENDENT ACCOUNTANTS......................................... 56
QUARTERLY FINANCIAL DATA (UNAUDITED)...................................... 57
PART IV.
ITEM 14. Exhibits, Financial Statements Schedules and
Reports on Form 8-K............................................. 58
REPORT OF INDEPENDENT AUDITORS............................................ 62
EXHIBIT INDEX............................................................. 64
2
<PAGE>
RESTATEMENT OF FINANCIAL STATEMENTS AND CHANGES TO CERTAIN INFORMATION
The Registrant previously announced that it would revise the accounting
treatment of its July 1998 acquisitions of ITK International, Inc. and
Central Data Corporation in response to comments received from the Securities
and Exchange Commission. Accordingly, this Annual Report on Form 10-K/A is
being filed as Amendment No. 1 to the Registrant's Annual Report on Form 10-K
filed with the Securities and Exchange Commission on December 29, 1998 for
the purpose of restating financial information and related disclosures for
the year ended September 30, 1998. See Notes 2 and 3 to the Consolidated
Financial Statements.
This Annual Report on Form 10-K/A contains statements that constitute
"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 generally can be identified by the
use of forward-looking terminology such as "anticipate," "believe," target,"
"estimate," `may," "will," "expect," "plan," "project" or "continue" or the
negative thereof or other variations thereon or similar terminology. Such
statements are based on information available to management as of the time of
such statements and relate to, among other things, expectations of the
business environment in which the Company operates, projections of future
performance, perceived opportunities in the market and statements regarding
the Company's mission and vision. Such statements are not guarantees of
future performance and involve certain risks, uncertainties and assumptions,
including risks related to the highly competitive market in which the Company
operates; the need to attract and retain qualified management personnel;
uncertainty in consumer acceptance of the Company's products and difficulty
in integrating the Company's operations acquired primarily through
acquisitions. These and other risks, uncertainties and assumptions identified
from time to time in the Company's filings with the Securities and Exchange
Commission, including without limitation, its annual reports on Form 10-K and
its quarterly reports on Form 10-Q, as amended, could cause the Company's
future results to differ materially from those expressed in any
forward-looking statements made by or on behalf of the Company. Many of such
factors are beyond the Company's ability to control or predict. These
forward-looking statements speak only as of the date for which they are made.
The Company disclaims any intent or obligation to update publicly any
forward-looking statements, whether as a result of new information, future
events or otherwise.
3
<PAGE>
PART I
ITEM 1. BUSINESS
Digi International Inc. ("Digi" or the "Company") was formed in l985 as a
Minnesota corporation and reorganized as a Delaware corporation in l989. The
Company is a worldwide provider of data communications products for open
systems, server-based remote access, and local area network ("LAN")
applications. Digi's communications products, which support a broad range of
server platforms and network operating systems in the industry, enable people
to have access to information, no matter when they need it, or what type of
computer they are using.
Digi's products enhance the development of open systems, server-based
communication by being compatible with all PC platforms - Compaq, IBM,
Hewlett-Packard, and Sun Microsystems - and popular operating systems,
including Microsoft Windows NT and Novell NetWare. Digi's solutions give
customers the flexibility to scale up easily as needs change and to choose
from a variety of industry-standard, cost effective alternatives. Digi's
products also support remote access connectivity through intranets and the
Internet.
The Company's server-based communications serial port boards provide
asynchronous (transmitting single characters at a time) and synchronous
(transmitting characters in a group) data transmissions for analog modems,
ISDN (Integrated Services Digital Network), X.25, Frame Relay or T1/E1
connections.
The Company's serial port communications products constituted approximately
80%, 76% and 80% of net sales in fiscal 1998, 1997 and 1996, respectively.
These products provide connections for two primary markets:
1. The core serial port products provide PC-host-to-terminal serial I/O
(input/output) connections. These products facilitate data transmission for
point-of-sale ("POS") applications, on-line transaction processing, factory
automation, inventory control and office automation, among others. The
onboard firmware allows the products to quickly, accurately and reliably
transmit data, thereby eliminating the information bottlenecks that can
result when multiple users or devices share one processing unit. These
solutions primarily use multi-user, multitasking operating systems such as
UNIX (and its variations), along with standard PC servers and communications
cards.
2. Open systems, server-based remote access products are data communications
boards that support remote access applications such as Internet access,
connectivity to corporate intranets and branch office networks, and
telecommuting.
The Company entered the LAN market with its acquisition of MiLAN Technology
Corporation in November 1993. The Company's LAN business, formerly the MiLAN
Technology Division, provides cost-effective and power-efficient Ethernet,
Fast Ethernet and Token Ring networking connectivity products that are
installed on a LAN to increase its productivity.
Company's LAN connectivity products include these two groups:
1. The physical layer products allow users to easily build and expand
networks using a variety of technologies including Ethernet, Fast Ethernet,
Gigabit Ethernet and ATM. These products include single and multiport
transceivers, converters, microhubs and modular repeaters.
4
<PAGE>
ITEM 1. BUSINESS (CONTINUED)
2. The print server products, based on the FastPort line, make print sharing
convenient and affordable. The FastPort line includes the industry's first
multiprotocol network print server providing access to any printer on an
Ethernet or Token Ring network without the inconvenience and expense of
spooling through a workstation or server.
The Company entered the Internet telephony market with the acquisition of ITK
International, Inc. ("ITK International" or "ITK") in July of 1998 and its
Voice over Internet Protocol ("VoIP") technology. ITK International provides
the new VoIP technology with the NetBlazer 8500 gateway, a "proof of concept"
product that converts voice signals to TCP/IP packets and routes them over IP
networks such as the Internet and company intranets. This capability combines
voice and data onto one cost-effective network and is changing the whole
concept of traditional voice communication. Although the VoIP technology
acquired from ITK International is still under development, the Company
believes that this technology will be successful once a functioning, finished
product is complete. Digi acquired ITK International for approximately $29.6
million in cash, stock, replacement stock options and the assumption of $39.8
million of liabilities and restructuring/integration costs.
The Company expanded its product lines with its acquisition of Central Data
Corporation ("Central Data" or "CDC") in July 1998. The Company also acquired
in-process research and development from Central Data related to Universal
Serial Bus (USB) technology. This in-process technology will give customers
the ability to maintain existing non-USB peripheral equipment and connect
with new PCs which contain advanced USB interfaces. The Company introduced
USB products in fiscal 1999. Digi acquired Central Data for approximately
$21.3 million in cash, stock, replacement stock options and the assumption of
$4.4 million of liabilities and restructuring/integration costs.
The Company works closely with customers, PC and server vendors, operating
system companies and other marketing partners to continuously optimize Digi's
wide area network ("WAN") and LAN products to interoperate in open systems,
industry-standard environments. This assures customers the ability to choose
the most flexible, cost-effective solution to meet their individual needs.
The Company markets its products to a broad range of customers, including
major domestic and international distributors, end users, system integrators,
VARs and OEMs. This network includes more than 185 distributors in the United
States, Canada and 65 countries worldwide, as well as OEM customers.
In July 1991, the Company opened a sales support office in Germany to
increase sales support to the European distribution network. The Company
expanded its presence in the German market in July 1998 with the acquisition
of ITK International, which maintains a sales and manufacturing office in
Dortmund, Germany. In October 1993, the Company opened a sales support office
in Singapore to increase sales support for its products to the Pacific Rim
distribution network. In 1996, the Company opened similar offices in Hong
Kong, Sydney and Tokyo and in 1997, the Company opened sales offices in Paris
and London to better serve its non-U.S. markets.
5
<PAGE>
ITEM 1. BUSINESS (CONTINUED)
To serve its worldwide markets, the Company (i) offers products that, in the
opinion of management, provide superior performance relative to current
standards and application requirements, (ii) provides products that are
compatible with a broad array of open systems operating systems and
industry-standard PC, server and workstation architectures, and (iii)
provides, in the opinion of management, superior technical support, including
frequent and timely product updates and ready access to the Company's support
staff.
The computer industry is characterized by rapid technological advances and
evolving industry standards. The market can be significantly affected by new
product introductions and marketing activities of industry participants. The
Company competes for customers on the basis of product performance in
relation to compatibility, support, quality and reliability, product
development capabilities, price and availability. Many of the Company's
competitors and potential competitors have greater financial, technological,
manufacturing, marketing and personnel resources than the Company. The
Company believes that it is the market leader in serial port boards for
server-based communications in the computer industry. With respect to the LAN
business, the Company believes it commands less than a 5% market share. The
Company is currently establishing its position in remote access market for
the Company's RAS product lines. The Company will enter the Internet
telephony market upon full development of its VoIP technology.
The Company's manufacturing operations procure all parts and certain services
involved in the production of products. The Company subcontracts most of its
product manufacturing to outside firms that specialize in providing such
services. The Company believes that this approach to manufacturing is
beneficial because it permits the Company to reduce its fixed costs, maintain
production flexibility and maximize its profit margins.
The Company's products are manufactured to its designs with standard and
semi-custom components. Most of these components are available from multiple
vendors. The Company does have several single-sourced supplier relationships,
either because alternative sources are not available or because the
relationship is advantageous to the Company. If these suppliers are unable to
provide timely and reliable supply of components, the Company could
experience manufacturing delays adversely affecting its results of operations.
During fiscal years 1996, 1997 and 1998, the Company's research and
development expenditures were $21.3, $18.0, and $17.0 million, respectively.
Due to rapidly changing technology in the computer industry, the Company
believes that its success depends primarily upon the engineering, marketing,
manufacturing and support skills of its personnel, rather than upon patent
protection. Although the Company may seek patents where appropriate and has
certain patent applications pending for proprietary technology, the Company's
proprietary technology or products are generally not patented. The Company
relies primarily on the copyright, trademark and trade secret laws to protect
its proprietary rights in its products. The Company has established common
law and registered trademark rights on a family of marks for a number of its
products.
6
<PAGE>
ITEM 1. BUSINESS (CONTINUED)
In May 1998, the Company exchanged its previously purchased $13,796,525 of
convertible notes from AetherWorks Corporation, a development stage company
engaged in the development of wireless and dial-up remote access technology,
for a non-interest bearing $8,000,000 non-convertible note. As a part of the
exchange, the Company relinquished its rights to any future technology or
claims on any of AetherWorks' intellectual properties. In exchange, the
Company has been released from all of its guarantees of certain lease
obligations of AetherWorks. As a result, the Company has reversed its
$1,350,000 accruals established in the fourth quarter of 1997, for the
estimated probable cost related to its guarantee of such lease obligations
and has included such amount as AetherWorks Corporation gain for the year
ended September 30, 1998.
Due to the significant uncertainty as to collectibility of the $8,000,000
note, which matures in 2001, the note has been recorded with no carrying
value as of September 30, 1998. The Company continues to lease to AetherWorks
$1,325,000 of computer equipment under a three-year direct financing lease,
expiring in 2000.
During the year ended September 30, 1998, two customers comprised more than
10% of net sales each: Ingram Micro at 15.5% and Tech Data at 13.7%. During
the year ended September 30, 1997, two customers comprised more than 10% of
net sales each: Ingram Micro at 15.1%, and Tech Data at 10.5%. During the
year ended September 30, 1996, two customers accounted for more than 10% of
net sales each: Tech Data at 13.9% and Ingram Micro at 13.4%.
As of September 30, 1998, the Company had backlog orders which management
believed to be firm in the amount of $2.9 million. All of these orders are
expected to be filled in the current fiscal year. Backlog as of September 30,
1997 was $14.7 million.
Total employees at September 30, 1998 were 703.
ITEM 3. LEGAL PROCEEDINGS
Between January 3, 1997 and March 7, 1997, the Company and certain of its
previous officers were named as defendants in five putative securities class
action lawsuits filed in the United States District Court for the District of
Minnesota on behalf of an alleged class of purchasers for its common stock
during the period January 25, 1996, through December 23, 1996. The five
putative class actions were thereafter consolidated, and on May 12, 1997, a
consolidated amended class action complaint (the "Consolidated Amended
Complaint") was filed in the actions, which are captioned IN RE DIGI
INTERNATIONAL INC. SECURITIES LITIGATION (Master File No. 97-5 DWF/RLE). The
Consolidated Amended Complaint alleges that the Company and its previous
officers Ervin F. Kamm, Jr., Gerald A. Wall and Gary L. Deaner violated the
federal securities laws by, among other things, misrepresenting and/or
omitting material information concerning the Company's operations and
financial results. The Consolidated Amended Complaint seeks compensatory
damages in an unspecified amount plus interest against all defendants,
jointly and severally, and an award of attorneys' fees, experts' fees and
costs.
7
<PAGE>
ITEM 3. LEGAL PROCEEDINGS (CONTINUED)
On February 25, 1997, the Company and certain of its previous officers also
were named as defendants in a securities lawsuit filed in the United States
District Court for the District of Minnesota by the Louisiana State Employees
Retirement System, which is captioned LOUISIANA STATE EMPLOYEES RETIREMENT
SYSTEM V. DIGI INTERNATIONAL INC., GARY L. DEANER, ERVIN F. KAMM, JR., GERALD
A. WALL AND "JOHN DOE" AND "RICHARD ROE", DEFENDANTS (Civil File No. 97-440,
Master File No. 97-5 DWF/RLE). On June 3, 1997, the Louisiana State Employees
Retirement System filed an Amended Complaint (the "Louisiana Amended
Complaint"). The Louisiana Amended Complaint alleges that the Company and its
previous officers Ervin F. Kamm, Jr., Gerald A. Wall and Gary L. Deaner
violated federal securities laws and state common law by, among other things,
misrepresenting and/or omitting material information concerning the Company's
operations and financial results. The Louisiana Amended Complaint seeks
compensatory damages in the amount of $718,404.70 plus interest against all
defendants, jointly and severally, and an award of attorneys' fees,
disbursements and costs.
In a decision issued on May 22, 1998, the United States District Court for
the District of Minnesota granted in part and denied in part defendants'
motions to dismiss the Consolidated Amended Complaint and the Louisiana
Amended Complaint. The Court dismissed without leave to replead all claims
asserted in both cases, except for certain federal securities law claims
based upon alleged misrepresentation and/or omissions relating to the
accounting treatment applied to the Company's AetherWorks investment. The
Court also limited the claims asserted in the Louisiana Amended Complaint to
the 11,000 shares of the Company's stock held subsequent to November 14,
1996, for which the Louisiana Amended Complaint claims damages of
$184,276.40. The claims in the two actions remain pending against the Company
and its former officers Ervin F. Kamm, Jr. and Gerald A. Wall. Discovery in
the actions is proceeding.
Because the lawsuits are in preliminary stages, the ultimate outcomes cannot
be determined at this time, and no potential assessment of their effect, if
any, on the Company's financial position, liquidity or future operations can
be made.
8
<PAGE>
PART II
ITEM 6. SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
(As restated (1))
--------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net sales $ 182,932 $ 165,598 $ 193,151 $ 164,978 $130,945
Percentage increase (decrease) 10.5% (14.3)% 17.1% 26.0% 40.2%
Net (loss) income (71) (15,791) 9,300 19,331 16,701
Percentage increase (decrease) 99.6% (269.8)% (51.9)% 15.7% 12.0%
Net (loss) income per share-basic (0.01) (1.18) 0.70 1.42 1.17
Percentage increase (decrease) 99.2% (268.6)% (50.7)% (21.4)% 13.6%
Net (loss) income per share-
assuming dilution (0.01) (1.18) 0.68 1.39 1.16
Percentage increase (decrease) 99.2% (268.6)% (51.1)% 19.8% 13.6%
Total assets 192,983 118,311 129,939 126,043 102,758
Percentage increase (decrease) 63.1% (8.9)% 3.1% 22.7% 15.6%
Long-term debt 11,124
Stockholders' equity 121,251 95,471 109,943 105,827 91,113
Percentage increase (decrease) 27.0% (13.2)% 3.9% 16.1% 13.2%
</TABLE>
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS AND PERCENTAGES)
(1) See notes 2 and 3 to the Company's consolidated financial statements
9
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
The following table sets forth selected information from the Company's
Consolidated Statements of Operations, expressed as a percentage of net sales.
<TABLE>
<CAPTION>
Increase/(Decrease)
Year Ended September 30, 1998 over 1997 over
1998 1997 1996 1997 1996
(As restated (1))
-------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 10.5% (14.3)%
Cost of sales 48.4 51.6 48.2 3.6 (8.2)
----- ------ ------ -------- -------
Gross margin 51.6 48.4 51.8 17.8 (19.9)
----- ------ ------ -------- -------
Operating expenses:
Sales and marketing 20.4 22.1 22.5 1.7 (15.6)
Research and develoment 9.3 10.9 11.0 (5.6) (15.5)
General and administrative 9.3 11.7 7.9 (12.0) 27.0
Acquired in-process research
and development 8.8 - - - -
Restructuring 0.5 6.3 - (90.3) -
----- ------ ------ -------- -------
48.3 51.0 41.4 4.6 5.6
Operating income (loss) 3.3 (2.6) 10.4 239.6 (121.5)
Other income, principally interest 1.0 0.1 0.2 1,082.2 (53.6)
AetherWorks Corporation net
operating loss - (3.5) (1.9) (100.0) 59.1
AetherWorks Corporation gain
(write-off) 0.7 (3.5) - (123.4) -
----- ------ ------ -------- -------
Income (loss) before income taxes 5.0 (9.5) 8.7 158.7 (193.4)
Provision for income taxes 5.0 0.1 3.9 10,031.0 (98.8)
----- ------ ------ -------- -------
Net (loss) income 0.0% (9.5)% 4.8% (99.6)% (269.8)%
</TABLE>
(1) See notes 2 and 3 to the Company's consolidated financial statements
10
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
FACTORS THAT MAY AFFECT FUTURE RESULTS
Certain statements made herein, which are summarized below, are forward-looking
statements that involve risks and uncertainties, and actual results may be
materially different. Factors that could cause actual results to differ include,
but are not limited to, those identified as follows:
DIGI'S STRATEGY OF ENHANCING SEASONED BUSINESSES WHILE ACHIEVING SIGNIFICANT
MARKET SHARE IN NEW HIGH-GROWTH MARKETS SUCH AS REMOTE ACCESS AND INTERNET
TELEPHONY AND THE FISCAL 1999 FOCUS ON ACCELERATING BUSINESS GROWTH AND LAYING A
FOUNDATION FOR CONSISTENT EARNINGS IMPROVEMENT SHOULD BE CHARACTERIZED AS
FORWARD-LOOKING AND, AS SUCH, MAY INVOLVE RISKS AND UNCERTAINTIES.
THE EXPECTATION OF CONTINUED GROWTH IN DEMAND FOR AND SALES OF THE COMPANY'S
REMOTE ACCESS, INTERNET TELEPHONY AND VoIP PRODUCTS, THE COMPANY'S ABILITY TO
PROVIDE PRODUCTS THAT TAKE ADVANTAGE OF NEW MARKET OPPORTUNITIES AND THE
COMPANY'S BELIEF THAT NEW PRODUCTS WILL BE PROFITABLE -- This expectation may be
impacted by general market conditions and competitive conditions within these
markets, development and acceptance of new products offered by the Company and
the introduction of products by competitors in these markets.
THE EXPECTATION THAT ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT WILL REACH
TECHNOLOGICAL FEASIBILITY AND LEAD TO NEW USB PRODUCTS IN 1999 AND NEW INTERNET
PROTOCOL TELEPHONY PRODUCTS IN 2000 AND 2001 WHICH WILL BENEFIT THE COMPANY IN
THE FUTURE AND THE COMPANY'S ESTIMATION OF THE COSTS ASSOCIATED WITH SUCH
DEVELOPMENT -- This expectation may be impacted by unanticipated expenses or
obstacles to development, general market conditions or changes in competitive
conditions.
THE COMPANY'S ASSUMPTIONS REGARDING REVENUE GROWTH, COST OF SALES, AND THE
WEIGHTED AVERAGE COST OF CAPITAL USED TO VALUE IN-PROCESS RESEARCH AND
DEVELOPMENT ACQUIRED IN RECENT ACQUISITIONS -- These assumptions may be impacted
by general market conditions, unanticipated changes in expenses or sales, delays
in the development of new products, the useful lives of such products once
developed, component shortages, and technological advances and other changes in
competitive conditions that would affect the value of the acquired in-process
research and development.
THE BELIEF THAT THE COMPANY'S CURRENT FINANCIAL RESOURCES, CASH GENERATED FROM
OPERATIONS AND THE COMPANY'S POTENTIAL CAPACITY FOR DEBT AND/OR EQUITY FINANCING
WILL BE SUFFICIENT TO FUND CURRENT AND ANTICIPATED BUSINESS OPERATIONS --
Changes in anticipated operating results, credit availability and equity market
conditions may further enhance or inhibit the Company's ability to maintain or
raise appropriate levels of cash.
THE COMPANY'S BELIEF THAT EVALUATIONS AND MODIFICATIONS OF YEAR 2000 COMPLIANCE
MATTERS, INCLUDING YEAR 2000 COMPLIANCE OF THIRD PARTY SUPPLIERS, WILL NOT HAVE
A MATERIAL ADVERSE EFFECT ON THE COMPANY'S OPERATIONS OR FINANCIAL POSITION --
This belief may be impacted by presently unanticipated delays in assessment or
remediation, unanticipated increases in costs or non-compliance by third
parties.
THE COMPANY'S EXPECTATION THAT VARIOUS RESTRUCTURING ACTIVITIES IN CONNECTION
WITH THE ACQUISITION OF ITK INTERNATIONAL, INC. AND CENTRAL DATA CORPORATION
WILL BE COMPLETED ACCORDING TO SCHEDULE -- This expectation may be impacted by
presently unanticipated delays or expenses.
11
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
RESTATEMENT
The Company previously announced it would revise the accounting treatment of its
July 1998 acquisitions of ITK and CDC in response to comments received from the
Securities and Exchange Commission. The following discussion includes all
changes that have been made related to the restatement. See also Notes 2 and 3
of the consolidated financial statements.
NET SALES
The $17.3 million increase in net sales from 1997 to 1998 and the $27.6 million
decrease in net sales from 1996 to 1997 occurred within the Company's principal
product groups as follows:
<TABLE>
<CAPTION>
Annual Sales
----------------------
Percent of Annual Net Sales Increase (Decrease)
---------------------------
1998 1997 1996 1998 1997
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Server Based 79.9% 75.7% 80.2% 16.6% (19.1)%
Physical Layer 20.1% 23.9% 18.9% (6.9)% 8.2%
Other 0.0% 0.4% 0.9% 100.0% (56.5)%
</TABLE>
Net sales in fiscal 1998 increased from fiscal 1997 largely because the Company
reduced inventory levels in the North American distribution channel throughout
1997 and into the first quarter of fiscal 1998. This resulted in a net increase
in sales within the distribution channel during the remainder of 1998. In
addition, during the third and fourth quarters of fiscal 1998, the Company gave
extended credit terms to North American distributors which provided incentive
for them to increase their purchases. Such incented increases in sales to these
customers could result in a decrease in sales to these customers in fiscal year
1999. The Company's fiscal 1998 net sales also increased due to the addition of
$9.7 million in fourth-quarter sales made by newly acquired ITK International,
Inc. (ITK) and Central Data Corporation (CDC). Net sales in 1997 declined from
1996 primarily due to the Company's inventory reductions in the North American
distribution channel.
Net sales to original equipment manufacturers (OEMs), as a percentage of total
net sales, declined to 22.2% versus 23.5% in 1997. The decrease was principally
a function of higher net sales to the distribution market.
Net sales to OEMs for 1996 were 20.3% of total sales.
Net sales to the distribution markets, as a percentage of total net sales,
increased to 69.3% in 1998, compared to 64.1% in 1997. This increase was a
result of the Company's 1997 inventory reductions in the North American
distribution channel, as previously discussed. Net sales to the distribution
market for 1996 represented 65.5% of total net sales.
During fiscal years 1998, 1997 and 1996, the Company's net sales to customers
outside the United States, primarily in Europe, were approximately $38.5
million, $39.6 million and $39.9 million, respectively, comprising approximately
21.1%, 23.9% and 20.0% of total net sales.
12
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
GROSS MARGIN
Gross margin in 1998 rose to 51.6%, compared to 48.4% in 1997. The increase was
due to more stringent cost control and favorable product mix. Gross margin also
benefited as net sales of historically lower-margin products -- largely OEM and
certain physical layer products -- declined as a percentage of total net sales.
Offsetting the favorable sales mix were increases in inventory valuation
reserves, sales discounts granted, and a higher proportion of lower margin
products sold in the fourth quarter of fiscal 1998 due to the acquisition of CDC
and ITK. Gross margins on total ITK and CDC sales in the fourth quarter of
fiscal 1998 were 44.0%. Gross margin in 1996 was 51.8%. The 1997 gross margin
decline was principally due to the increase of OEM and physical layer product
net sales as a percentage of total net sales as sales to the distribution
markets were intentionally reduced in 1997. The Company increased its reserves
for excess and obsolete inventories approximately $2.6 million in 1998. In 1997,
these reserves increased approximately $1.5 million from the 1996 level.
OPERATING EXPENSES
Operating expenses in 1998 declined 3.7% from 1997, excluding acquired
in-process research and development charges of $16,064,933 recorded in 1998 and
the restructuring charges recorded in 1998 and 1997 of $1,020,000 and
$10,471,482, respectively. The operating expense decline reflected reductions in
the workforce, decreased marketing costs and cost savings achieved through the
consolidation of U.S. research and development efforts, offset by CDC and ITK
operating expenses of $3.8 million. General and administrative expenses declined
in 1998 due to workforce reductions and cost-saving initiatives, offset by
increased intangible asset amortization. Operating expenses in 1997 declined
7.5% from 1996, excluding restructuring charges. The decline resulted from
cost-saving measures similar to those executed in 1998. General and
administrative expenses increased 27.0% in 1997 from 1996 due to an increase in
the provision for losses on accounts receivable, cost of management information
systems and increased facilities expenditures.
The $1,020,000 restructuring charge recorded in the fiscal 1998 fourth quarter
was associated with a board-approved plan to consolidate existing offices in
Germany with those acquired from ITK. The charge consists principally of rent,
contractual payments on office equipment, write-offs of leasehold improvements
and termination costs associated with the elimination of six positions. These
activities are expected to be completed by the end of fiscal year 1999. No
portion of this liability has been paid as of September 30, 1998. (See Note 4 to
the Company's consolidated financial statements).
The $10,471,482 restructuring charge recorded in the fiscal 1997 second quarter
was related to a board-approved plan to consolidate operations and reduce costs
and expenses. The restructuring charge consisted of $1,259,769 in net cash
expenditures (primarily employee termination costs), all of which had been paid
as of September 30, 1997, and $9,211,713 resulting from the write-down of asset
carrying values. (See Note 4 to the Company's consolidated fiancial statements).
13
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT
ACQUISITION OF ITK INTERNATIONAL, INC.:
In July 1998, the Company acquired all of the outstanding common stock of ITK.
The transaction was accounted for using the purchase method of accounting.
Accordingly, the purchase price was allocated to the estimated fair value of
assets acquired and liabilities assumed, including estimated restructuring and
integration costs of $3,484,000. (See Note 4 to the Company's consolidated
financial statements).
Components of the purchase consideration, including related transaction costs,
consist of $14,767,154 in cash, the Company's common stock with a market value
of $12,501,183 and $2,316,415 of replacement stock options issued by the Company
to ITK option holders. The cash and the Company's common stock were issued in
exchange for outstanding shares of ITK's common stock and the Company's stock
options were issued in exchange for the outstanding ITK common stock options.
The value of the Company's common stock issued was based on a per share value of
approximately $21.69, calculated as the average market price of the Company's
common stock during the two business days immediately preceding and subsequent
to the date the parties reached agreement on terms and announced the
transaction. The value of the Company's common stock options is based on the
estimated fair value of these options, as of the date the transaction was
consummated, using the Black-Scholes valuation model.
The table below is an analysis of the purchase price allocation.
<TABLE>
<S> <C>
Cash and fair value of Company's common
stock and common stock options issued $28,146,369
Direct acquisition costs 1,438,383
ITK liabilities assumed, including estimated
restructuring and integration costs of $3,484,000 39,784,248
----------
Total purchase price 69,369,000
Estimated fair value of tangible assets
acquired, including $5,772,000 of deferred tax assets 27,440,814
Estimated fair value of:
IPR&D 11,330,100
Identifiable intangible assets 21,100,000
Goodwill 17,727,086
Deferred tax liabilities related to identifiable intangibles (8,229,000)
-----------
$69,369,000
-----------
-----------
</TABLE>
14
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT (CONTINUED)
ACQUISITION OF ITK INTERNATIONAL, INC.: (CONTINUED)
At the time of the Company's acquisition, ITK described itself as a Remote
Access Server (RAS) product company. Although ITK did offer its own line of ISDN
cards and networking boards, the Company's acquisition was made principally to
acquire the voice over Internet Protocol (VoIP) technology under development by
ITK. This VoIP technology, if successfully developed, would allow users to send
packetized voice signals through the Internet. The Company believes that the
VoIP technology under development at the time of the acquisition could provide
for the development of products which would be a natural extension of the
Company's current product offerings and could position the Company to address
substantially larger markets than the markets served by the Company's current
products.
At the time of the acquisition, ITK had developed a proof of concept prototype
product ("NetBlazer 8500") which demonstrated that the method of voice and data
compression under development by ITK and the method of combining VoIP and remote
access functionality under development by ITK had the potential to be further
developed into a product marketable to "Carrier Class" telephone companies.
However, the NetBlazer 8500 required further development before it could meet
the technical and functional requirements of such customers. Accordingly, the
Company is uncertain whether the VoIP technology being developed will ultimately
meet the technical requirements of Carrier Class telephony customers or whether
it will be commercially viable.
As of the date of the acquisition, the nature of the development efforts related
to the purchased, in-process research and development projects, as well as the
efforts required to complete development of those projects into commercially
viable products included development projects to address the following: (a)
development of enhanced technical attributes, including enhanced port density,
redundancy, network management capabilities, a higher fault tolerance,
compliance with telephone industry standards such as "SS7" and "NEBS"
compliancy; (b) development of significant hardware and software functions
considered integral to a product with broad appeal to end users and the
telephone companies, including computer-to-phone capabilities, interoperability
with other vendor's gateways, one-stage dialing , local tone simulation and
announcements, end-to-end transparent disconnect cause delivery and real-time
FAX-over capabilities, among others; and (c) re-engineering of the prototype
design to permit cost effective manufacture and commercial use, including
migration from a UNIX operating system to a Windows NT operating system.
It is not certain that development efforts on these projects will allow for
Carrier Class telephone company and end-user specifications to be met. Failure
to achieve these specifications or to achieve market viability will cause the
VoIP projects to fail. If these products are not successfully developed, the
sales and profitability of the combined Company may be adversely affected in
future periods. Additionally, the value of other identifiable intangible assets
and goodwill acquired may become impaired.
15
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT (CONTINUED)
ACQUISITION OF ITK INTERNATIONAL, INC.: (CONTINUED)
Management estimates that $11.3 million of the purchase price represents the
fair value of purchased in-process research and development related to the VoIP
projects referred to above, that had not yet reached technological feasibility
and had no alternative future uses. These amounts were expensed as a
non-recurring, non tax-deductible charge upon consummation of the acquisition.
The Company utilized the alternative income valuation approach to determine the
estimated fair value of the purchased in-process research and development. This
estimate is based on the following assumptions:
- - The estimated revenues are based upon projected average annual revenue
growth rates from future products expected to be derived once technological
feasibility is achieved of between 18% and 65% during the period from 2000
through 2005, starting with an estimated growth rate of 65% from 2000 to
2001 with steadily declining rates of estimated revenue growth through
2005. Estimated total revenues expected from products to be developed using
purchased in-process research and development peak in the year 2005 and
decline rapidly in 2006 and 2007 as other new products are expected to
enter the market. These projections are based on estimates made by the
Company's management of market size and growth (which are supported by
independent market data), expected trends in technology and the nature and
expected timing of new product introductions by ITK and its competitors.
- - The estimated costs of sales are based upon the historical, stand-alone
costs of ITK without considering any synergies due to the acquisition by
the Company.
- - The estimated selling, general and administrative expenses of between 37%
and 32% of revenues from 2000 through 2003 and between 29% and 27% of
revenues between 2004 and 2007, are based upon the estimated expense levels
of ITK as derived from the historical, stand-alone costs of ITK without
considering any synergies due to the acquisition by the Company.
- - The discount rate utilized in the alternative income valuation approach is
based on the weighted average cost of capital (WACC). The WACC calculation
produces the average required rate of return of an investment in an
operating enterprise, based on various required rates of return from
investments in various areas of that enterprise. The WACC estimated by an
independent third-party appraiser for the Company, as a corporate business
enterprise is 14%. The discount rate used in the alternative valuation
approach was 30%. This discount rate is higher than the WACC due to the
inherent uncertainties in the estimates described above including
uncertainty surrounding the successful development of purchased research
and development, the estimated useful life of such completed research and
development, the profitability levels of such completed research and
development and the uncertainty of technological advances that are unknown
at this time.
16
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT (CONTINUED)
ACQUISITION OF ITK INTERNATIONAL, INC.: (CONTINUED)
The Company estimated that the purchased in-process research and development
related to VoIP was 83% complete as of the acquisition date. This estimate was
based upon research and development costs incurred to date compared to total
estimated development costs. As of the date of acquisition, the estimated cost
to complete the VoIP to a point of technological feasibility was approximately
$2.3 million, expected to be incurred over a period of approximately 20 months
following the acquisition. This estimate is subject to change, given the
uncertainties of the development process, and no assurance can be given that
deviations from these estimates will not occur.
The Company is continuing development of the acquired in-process VoIP technology
and, as of June 30, 1999, believes that its development efforts are on schedule
to meet the product release schedule referred to above without any significant
changes in its research and development costs. However, these expectations are
subject to change, given the uncertainties of the development process and
changes in market expectations.
The identifiable intangible assets of $21,100,000 included in the purchase price
allocation set forth above are comprised of proven technology with an estimated
fair value of $19,700,000 and an assembled workforce with an estimated fair
value of $1,400,000, which have estimated useful lives of five years and six
years, respectively. The remaining unallocated purchase price represents
goodwill of $17,727,086, which is being amortized over seven years. With regard
to the proven technology, the Company intends to further enhance the strengths
of this product range and implement a plan to gain leadership in the ISDN
market. The Company's core asset is the comprehensive set of common application
programming interface (CAPI) and CAPI-enhancing features combined with highly
intelligent ISDN protocol implementation which provide for integration into
server-based communication solutions for the media communication market.
ACQUISITION OF CENTRAL DATA CORPORATION:
In July 1998, the Company acquired all of the outstanding common stock of CDC.
The transaction was accounted for using the purchase method of accounting.
Accordingly, the purchase price was allocated to the estimated fair value of
assets acquired and liabilities assumed, including estimated restructuring and
integration costs of $750,000. (See Note 4 to the Company's consolidated
financial statements).
Components of the purchase consideration, including related transaction costs,
consist of $14,261,965 in cash, the Company's common stock with a market value
of $4,326,721 and $2,693,236 of replacement stock options issued by the Company
to CDC option holders. The cash and the Company's common stock were issued in
exchange for outstanding shares of CDC's common stock and the Company's stock
options were issued in exchange for the outstanding CDC common stock options.
The value of the
17
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT (CONTINUED)
ACQUISITION OF CENTRAL DATA CORPORATION: (CONTINUED)
Company's common stock issued was based on a per share value of approximately
$21.69, calculated as the average market price of the Company's common stock
during the two business days immediately preceding and subsequent to the date
the parties reached agreement on terms and announced the transaction. The value
of the Company's common stock options is based on the estimated fair value of
these options, as of the date the transaction was consummated, using the
Black-Scholes valuation model.
The table below is an analysis of the purchase price allocation.
<TABLE>
<S> <C>
Cash and fair value of Company's common
stock and common stock options issued $ 20,980,482
Direct acquisition costs 301,440
CDC liabilities assumed, including estimated
restructuring and integration costs of $750,000 4,394,617
-------------
Total purchase price 25,676,539
Estimated fair value of tangible assets acquired 5,252,408
Estimated fair value of:
IPR&D 4,734,833
Identifiable intangible assets 9,800,000
Goodwill 9,711,298
Deferred tax liabilities related to identifiable intangibles (3,822,000)
-------------
$ 25,676,539
-------------
</TABLE>
Although CDC did offer its own line of traditional serial port connectivity
products, the Company's acquisition was made principally to acquire the
Universal Serial Bus (USB) technology under development by CDC. This USB
technology, if successfully developed, would broaden the Company's product
offerings to include this new, emerging industry-standard port technology.
Management considers such a product offering integral to its future market share
because the marketplace is migrating from the traditional serial I/O
(input/output) technology (in which the Company has significant market share) to
USB technology. The Company also believes that it can reduce its time to market
by 12 to 18 months by acquiring CDC's in-process research and development rather
than initiating development of its own USB technology.
18
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT (CONTINUED)
ACQUISITION OF CENTRAL DATA CORPORATION: (CONTINUED)
At the time of acquisition, CDC had developed a prototype of both the 2-port and
4-port USB connectivity technologies that demonstrated the validity of CDC's
product development plan. However, the USB technology development was still in
process, and required significant development work and field testing before it
could meet the technical and functional requirements of customers and achieve
commercial viability. Accordingly, the Company was uncertain whether the
technology being developed could ultimately meet the technical and economic
requirements of the marketplace and become commercially viable.
As of the date of the acquisition, the nature of the development efforts related
to the purchased, in-process research and development projects, as well as the
efforts required to complete development of those projects into commercially
viable products included: (a) development of new hardware designs and software
engineering relating to a complete reengineering of the in-process USB
technology; (b) development of new hardware designs for 8-port USB products; and
(c) development of a new "hub" architecture to support the CDC USB technology.
It is not certain that development efforts on these projects will allow for user
specifications to be met or commercial viability to be achieved. Failure to
achieve these specifications or to achieve market viability will cause the USB
projects to fail. If these products are not successfully developed, the sales
and profitability of the combined Company may be adversely affected in future
periods. Additionally, the value of other identifiable intangible assets and
goodwill acquired may become impaired.
Management estimates that $4.7 million of the purchase price represents the fair
value of purchased in-process research and development related to the USB
projects referred to above, that had not yet reached technological feasibility
and had no alternative future uses. These amounts were expensed as a
non-recurring, non tax-deductible charge upon consummation of the acquisition.
The Company utilized the alternative income valuation approach to determine the
estimated fair value of the purchased in-process research and development. These
estimates are based on the following assumptions:
- - The estimated revenues are based upon projected average annual revenue
growth rates form future products expected to be derived once technological
feasibility is achieved of between 9% and 52% during the period from 1999
through 2002, starting with an estimated growth rate of 52% from 1999 to
2000 with a declining rate of estimated revenue growth through 2002.
Estimated total revenues expected from products to be developed using
purchased in-process research and development peak in the year 2002 and
decline rapidly in 2003 and 2004 as other new products are expected to
enter the market. These projections are based on estimates made by the
Company's management of market size and growth (which are supported by
independent market data), expected trends in technology and the nature and
expected timing of new product introductions by CDC and its competitors.
19
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT (CONTINUED)
ACQUISITION OF CENTRAL DATA CORPORATION: (CONTINUED)
- - The estimated costs of sales are based upon the historical, stand-alone
costs of CDC without considering any synergies due to the acquisition by
the Company.
- - The estimated selling, general and administrative expenses of between 35%
and 30% of revenues from 1999 to 2003 and 27% of revenues in 2004, are
based upon the estimated expense levels of CDC as derived from the
historical, stand-alone costs of CDC without considering any synergies due
to the acquisition by the Company.
- - The discount rate utilized in the alternative income valuation approach is
based on the weighted average cost of capital (WACC). The WACC calculation
produces the average required rate of return of an investment in an
operating enterprise, based on various required rates of return from
investments in various areas of that enterprise. The WACC estimated by an
independent third-party appraiser for the Company, as a corporate business
enterprise is 14%. The discount rate used in the alternative valuation
approach was 30%. This discount rate is higher than the WACC due to the
inherent uncertainties in the estimates described above including
uncertainty surrounding the successful development of purchased research
and development, the estimated useful life of such completed research and
development, the profitability levels of such completed research and
development and the uncertainty of technological advances that are unknown
at this time.
The Company estimated that the purchased in-process research and development
related to USB was 87% complete as of the acquisition date. This estimate was
based upon research and development costs incurred to date compared to total
estimated development costs. As of the date of acquisition, the estimated cost
to complete the USB technology to a point of technological feasibility was
approximately $600,000, expected to be incurred over a period of approximately
nine months following the acquisition. This estimate is subject to change, given
the uncertainties of the development process, and no assurance can be given that
deviations from these estimates will not occur.
The Company is continuing development of the acquired in-process USB research
and development and has developed and released USB products, with initial
product revenues generated during November 1998. Completion of the in-process
USB research and development was achieved without any significant changes in the
estimated research and development costs.
The identifiable intangible assets of $9,800,000 included in the purchase price
allocation set forth above are comprised of proven technology with an estimated
fair value of $9,400,000, and an assembled workforce with an estimated fair
value of $400,000, which have estimated useful lives of five years and six
years, respectively. The remaining unallocated purchase price represents
goodwill in the amount of $9,711,298, which is being amortized over seven years.
20
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
OTHER INCOME
Other income for 1998 increased approximately $3.0 million, as the Company
earned higher interest income on its increased cash and cash equivalent
balances. Other income also included a fiscal 1998 third-quarter reversal of
a $1.4 million previously accrued obligation related to lease guarantees for
AetherWorks Corporation. As discussed in the next item below, the obligation
is no longer required because the Company is no longer the primary guarantor
for these leases.
AETHERWORKS CORPORATION
NET LOSS AND WRITE-OFF
In connection with the Company's previously purchased $13.8 million of
convertible notes from AetherWorks Corporation, in May 1998 the Company
exchanged such notes for a non-interest bearing $8.0 million non-convertible
note and was released from all of its guarantees of certain lease obligations
of AetherWorks. Due to significant uncertainty as to its collectibility, the
$8.0 million note, which matures in 2001, has been recorded by the Company as
having no carrying value. In fiscal 1997 and 1996, the Company used the
equity method to account for its investment in AetherWorks and recorded net
losses of $5.8 million and $3.6 million, respectively. These net losses
represent 100% of AetherWorks' losses for those years. The percentage of
AetherWorks' net losses included in the Company's financial statements was
based upon the percentage of financial support provided by the Company
(versus other investors) during those years. The Company wrote off its
investment in AetherWorks as of September 30, 1997, and recorded a $5.8
million charge, composed of its $2.4 million remaining investment, its $2.0
million remaining obligation to purchase additional notes and $1.4 million
for the obligation to guarantee certain AetherWorks leases. The Company no
longer has any funding obligations or any potential equity interest in or
management control over AetherWorks. Consequently, the Company has not
included any of AetherWorks' net losses in its results of operations during
fiscal 1998.
INCOME TAXES
The Company recorded a $9.3 million tax provision for 1998. This tax
provision was required primarily because the write-off of acquired in-process
research and development and the because amortization of certain intangible
assets and goodwill acquired in the purchase of ITK and CDC is not deductible
for income tax reporting purposes. In 1997, the Company recorded a $0.1
million tax provision, while reporting a pre-tax loss for that year. That
provision was necessary due to the non-deductibility of certain intangible
assets written off as part of the restructuring charge, the AetherWorks net
losses and the related investment write-off. In addition, the Company had
also provided additional provision in connection with an IRS examination of
certain tax returns filed in prior years. In 1996, the Company recorded a
$7.5 million income tax provision at a higher rate than the federal statutory
rate due primarily to the nondeductability of the AetherWorks net losses.
21
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
INFLATION
The Company believes inflation has not had a material effect on its
operations or its financial condition.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations principally with funds generated from
operations, and, in prior years, with proceeds from earlier public offerings.
Investing activities in 1998 consisted of the acquisitions of ITK and CDC for
a combined purchase price of $95.0 million, including the issuance of $16.8
million of common stock, $5.0 million of replacement stock options, $29.0
million of cash payments, and $44.2 million of liabilities assumed, including
estimated restructuring and integration costs of $4.2 million. In connection
with the acquisitions, the Company also assumed $22.1 million in line of
credit obligations and long-term debt in the fourth quarter of fiscal 1998,
reflecting the outstanding debt of ITK and CDC.
Other investing activities in 1998 consisted primarily of purchases of $5.8
million of equipment and capital improvements, including a new
enterprise-wide computer system. In addition, the final payments totaling $2
million for AetherWorks Corporation notes were made in 1998.
In September 1998, the Board of Directors authorized a program to repurchase
up to one million shares of the Company's common stock for use in the
Company's benefit plans. As of September 30, 1998, 15,000 shares had been
repurchased under this program.
Investing activities in 1997 consisted of purchases of $8.8 million of
equipment and capital improvements and the purchase of $6.5 million of
additional convertible notes from AetherWorks Corporation.
At September 30, 1998, the Company had working capital of $37.9 million and
debt totaling $22.1 million. The Company maintains lines of credit with
various financial institutions providing for borrowings of up to $25,707,000,
depending upon levels of eligible accounts receivable and inventories. As of
September 30, 1998, $10,707,000 had been borrowed under these lines of
credit. The Company's management believes that current financial resources,
cash generated from operations and the Company's potential capacity for debt
and/or equity financing will be sufficient to fund current and future
business operations.
FOREIGN CURRENCY TRANSLATION
Substantially all of the Company's foreign transactions are negotiated,
invoiced and paid in U.S. dollars -- except for approximately $5.8 million in
Deutschemark-denominated sales made through the Company's newly-acquired
subsidiary, ITK. In future periods, a significant portion of sales made
through ITK will be made in Deutschemarks until full integration of the
"euro" is achieved. The Company has not implemented a hedging strategy to
reduce the risk of foreign currency translation exposures, which management
does not believe to be significant based on the scope of the Company's
foreign operations as of September 30, 1998.
22
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
FOREIGN CURRENCY TRANSLATION (CONTINUED)
Effective January 1, 1999, eleven states of the European Union will convert
to a common currency, called the "euro." This action will most likely cause
the majority of the Company's European transactions to be negotiated,
invoiced and paid in "euros." The conversion will most likely add currency
exchange costs and risks, although such costs and risks are not quantifiable
at this time.
YEAR 2000 ISSUES
The Company began a comprehensive project in 1996 to prepare its products and
its internal computer systems for the year 2000. Most of the Company's
products are year 2000 compliant because there is very little or no date
processing involved. Certain products, including end-of-life versions, do
require customer action such as a patch or version upgrade to be compliant.
These products are being identified, and the Company is in the process of
notifying impacted customers.
The Company believes its implementation of a new enterprise-wide information
management system, principally installed to improve operating efficiency,
will address the Company's internal year 2000 compliance issues. Because of
the acquisitions of ITK and CDC, the world-wide rollout of this system will
not be completed until the late summer of calendar year 1999. If necessary
conversions are not completed on a timely basis, the year 2000 could have a
material adverse effect on the Company's operations. Overall, management
believes the year 2000 will not have a significant impact on operations.
The Company plans to continue with remediation and testing efforts with both
its products and internal systems to further mitigate any risks associated
with the year 2000. At this time, the Company believes it is unnecessary to
adopt a contingency plan covering the possibility that the year 2000 project
will not be completed in a timely manner, but, as part of the overall
project, the Company will continue to assess the need for a contingency plan
based on the Company's periodic evaluation of target dates for the completion
of the year 2000 project.
The Company faces risk to the extent that suppliers of products and services
purchased by the Company and others with whom the Company transacts business
on a world-wide basis do not have business products and services that comply
with year 2000 requirements. The Company has obtained assurances from most of
its key suppliers that their products and services are year 2000 compliant.
In the event any such third parties cannot, in a timely manner, provide the
Company with products and services that meet the year 2000 requirements, the
Company's operating results could be materially adversely affected.
The costs associated with the year 2000 project are minimal and are not
incremental to the Company, but include temporary reallocation of existing
resources. Although the Company believes that the remaining cost of year 2000
modifications for both internal-use systems and the Company's products are
not material, there can be no assurances that various factors relating to the
year 2000 compliance issues, including litigation, will not have a material
adverse effect on the Company's business, operating results, or financial
position.
23
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION (CONTINUED)
NEW ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income." The
statement establishes standards for the reporting and display of
comprehensive income and its components. Comprehensive income is defined as
the change in equity of a business enterprise during a period from
transactions and other events and circumstances from non-owner sources. It
includes all changes in equity during a period except those resulting from
investments by owners and distributions to owners. This standard will require
that an enterprise display an amount representing total comprehensive income
for the period. Statement No. 130 will be initially effective for the first
quarter of the Company's fiscal year ending September 30, 1999. Adoption of
Statement of Financial Accounting Standards No. 130 will not impact the
results of operations or the financial position of the Company.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information," which supersedes Statement No. 14. This
statement changes the way that public business enterprises report segment
information, including financial and descriptive information about their
operating segments, in annual financial statements and would require that
those enterprises report selected segment information in interim financial
reports to stockholders. Operating segments are defined as revenue-producing
components of the enterprise which are generally used internally for
evaluating segment performance. Statement No. 131 will be effective for the
Company beginning with the first quarter of the Company's fiscal year ending
September 30, 1999. Management has not yet completed its analysis of the
effects of Statement No. 131 on its financial reporting.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities." Statement No. 133 will be effective for
the Company beginning with the Company's fiscal year ending September 30,
2000. As the Company presently has no derivative instruments and is not
involved in hedging activity, the Company does not expect the adoption of
Statement No. 133 to have an impact on the results of operations or the
financial position of the Company.
In October 1997, Statement of Position 97-2, "Software Revenue Recognition"
(SOP 97-2), was issued. SOP 97-2 provides guidance on when revenue should be
recognized and in what amounts for licensing, selling, leasing or otherwise
marketing computer software. SOP 97-2 will become effective for the Company's
fiscal year ending September 30, 1999. The adoption of SOP 97-2 is not
expected to have a significant impact on the results of operations or
financial position of the Company.
24
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
For the fiscal years ended September 30 1998 1997 1996
As Restated-See Notes 2 and 3
------------------------------------------------------
<S> <C> <C> <C>
Net sales $ 182,931,670 $ 165,597,937 $ 193,150,898
Cost of sales 88,539,156 85,482,536 93,108,624
------------- ------------- -------------
Gross Margin 94,392,514 80,115,401 100,042,274
Operating expenses:
Sales and marketing 37,288,027 36,671,271 43,449,864
Research and development 16,963,410 17,978,135 21,279,551
General and administrative 17,011,504 19,324,777 15,215,512
Acquired in-process research and development 16,064,933
Restructuring 1,020,000 10,471,482
------------- ------------- -------------
Total operating expenses 88,347,874 84,445,665 79,944,927
------------- ------------- -------------
Operating income (loss) 6,044,640 (4,330,264) 20,097,347
Other income, net 1,818,286 153,809 331,789
AetherWorks Corporation net operating loss (5,764,201) (3,623,776)
AetherWorks Corporation gain (write-off) 1,350,000 (5,758,548)
------------- ------------- -------------
Income (loss) before income taxes 9,212,926 (15,699,204) 16,805,360
Provision for income taxes 9,284,020 91,640 7,505,140
------------- ------------- -------------
Net (loss) income $ (71,096) $ (15,790,844) $ 9,300,220
============================================================
Net (loss) income per common share,
basic $ (0.01) $ (1.18) $ 0.70
============================================================
Net (loss) income per common share,
assuming dilution $ (0.01) $ (1.18) $ 0.68
============================================================
Weighted average common shares, basic 13,729,765 13,393,408 13,323,564
============================================================
Weighted average common shares,
assuming dilution 13,729,765 13,393,408 13,583,468
============================================================
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
25
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA (CONTINUED)
<TABLE>
<CAPTION>
CONSOLIDATED BALANCE SHEETS
At September 30, 1998 1997
As Restated-See Notes 2 and 3
---------------------------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 10,355,368 $ 31,329,666
Accounts receivable, net 48,549,145 25,658,522
Inventories, net 27,365,924 23,683,312
Other 6,139,941 4,147,942
------------- -------------
Total current assets 92,410,378 84,819,442
Property, equipment and improvements, net 33,990,923 23,617,696
Intangible assets, net 63,602,435 6,876,597
Other 2,978,883 2,997,601
------------- -------------
Total assets $ 192,982,619 $ 118,311,336
==================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Borrowings under line of credit agreements $ 10,707,000
Current portion of long-term debt 264,025
Accounts payable 15,255,175 $ 10,118,921
Income taxes payable 3,797,588 1,771,986
Accrued expenses:
Advertising 2,651,742 2,847,672
Compensation 6,776,292 2,388,468
AetherWorks Corporation funding obligation 3,350,000
Other 9,808,835 2,363,258
Restructuring reserves 5,254,000 -
------------- -------------
Total current liabilities 54,514,657 22,840,305
------------- -------------
Long-term debt 11,124,446
Net deferred income taxes 5,817,933
Other 275,000 -
------------- -------------
Total liabilities 71,732,036 22,840,305
------------- -------------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value: 2,000,000 shares authorized;
none outstanding
Common stock, $.01 par value; 60,000,000 shares authorized;
15,790,975 and 14,727,256 shares issued 157,910 147,273
Additional paid-in capital 70,461,123 44,403,102
Retained earnings 75,042,806 75,113,902
Cumulative foreign currency translation adjustment (815,809)
------------- -------------
144,846,030 119,664,277
Unearned stock compensation (1,700,635) (1,787,658)
Treasury stock, at cost, 1,247,094 and 1,269,492 shares (21,894,812) (22,405,588)
------------- -------------
Total stockholders' equity 121,250,583 95,471,031
------------- -------------
Total liabilities and stockholders' equity $ 192,982,619 $ 118,311,336
==================================
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
26
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA (CONTINUED)
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the fiscal years ended September 30, 1998 1997 1996
As Restated-See Notes 2 and 3
-----------------------------------------------------
<S> <C> <C> <C>
Operating activities:
Net (loss) income $ (71,096) $ (15,790,844) $ 9,300,220
Adjustments to reconcile net (loss) income to
cash provided by (used in) operating activities:
Acquired in-process research and development 16,064,933
Restructuring 1,020,000 9,211,713
Depreciation of property and equipment 5,174,725 5,587,132 5,017,735
Amortization of intangibles 3,665,879 1,114,023 1,320,457
AetherWorks Corporation net loss 5,764,201 3,623,776
AetherWorks Corporation (gain) write-off (1,350,000) 5,758,548
Loss on sale of fixed assets 159,498 760,555 238,222
Provision for losses on accounts receivable 708,992 1,933,251 262,164
Provision for inventory obsolescence 3,414,270 2,910,988 1,455,895
Deferred income taxes (1,251,611) (1,787,933) (393,153)
Stock compensation 895,401 244,569 204,973
Changes in operating assets and liabilities:
Accounts receivable (17,687,833) 15,283,125 (11,176,126)
Inventories (569,839) 3,780,241 (7,808,974)
Income taxes payable (receivable) 883,900 3,447,612 (1,545,461)
Other assets (3,227,695) 713,772 (1,953,252)
Accounts payable 279,238 (2,430,817) 443,223
Accrued expenses 2,279,156 153,448 (664,452)
----------- ----------- -----------
Total adjustments 10,460,014 52,444,428 (10,974,973)
----------- ----------- -----------
Net cash provided by (used in) operating activities 10,388,918 36,653,584 (1,674,753)
----------- ----------- -----------
Investing activities:
Purchase of property and equipment and certain other intangible assets (5,816,163) (8,841,473) (12,902,436)
Proceeds from sale of fixed assets 1,133,197
Proceeds from held-to-maturity marketable securities 20,640,962
Proceeds from available-for-sale marketable securities 13,060,000
Purchase of held-to-maturity marketable securities (482,187)
Purchase of available-for-sale marketable securities (5,250,000)
Business acquisitions, net of cash acquired (27,356,560)
Investment in AetherWorks Corporation (2,000,000) (6,500,000) (5,296,525)
----------- ----------- -----------
Net cash (used in) provided by investing activities (35,172,723) (15,341,473) 10,903,011
----------- ----------- -----------
</TABLE>
Continued Next Page
27
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA (CONTINUED)
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
<TABLE>
<CAPTION>
For the fiscal years ended September 30, 1998 1997 1996
As Restated-
See Notes 2 and 3
---------------------------------------------------
<S> <C> <C> <C>
Financing activities:
Payments on long-term debt (73,000)
Proceeds from the issuance of long-term debt 2,064,865
Purchase of treasury stock (153,750) (7,249,325)
Stock option transactions, net 2,310,572 539,838 1,659,838
Employee stock purchase plan transactions, net 471,629 534,327 200,888
------------ ---------- ------------
Net cash provided by (used in) financing activities 4,620,316 1,074,165 (5,388,599)
------------ ---------- ------------
Effect of exchange rates changes on cash and cash equivalents (810,809)
Net (decrease) increase in cash and cash equivalents (20,974,298) 22,386,276 3,839,659
Cash and cash equivalents, beginning of period $ 31,329,666 $ 8,943,390 $ 5,103,731
------------ ---------- ------------
Cash and cash equivalents, end of period $ 10,355,368 $ 31,329,666 $ 8,943,390
------------ ---------- ------------
------------ ---------- ------------
Supplemental Cash Flows Information:
Interest paid $ 224,730 $ 208,000 $ 224,730
Income taxes paid $ 7,463,578 $ 238,439 $ 8,944,627
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
28
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA (CONTINUED)
Consolidated Statements of Stockholders' Equity
For the years ended September 30, 1998, 1997 and 1996
<TABLE>
<CAPTION>
Common Stock Treasury Stock Additional
Shares Par Value Shares Value Paid-in-Capital
-----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balances, September 30, 1995 14,562,958 $ 145,630 1,032,729 $ (16,631,542) $ 41,306,320
Purchase of treasury stock, at cost 315,000 (7,249,325)
Employee stock purchase issuances (8,835) 200,888
Issuance of stock options at below
market prices 12,50
Stock compensation
Issuance of stock upon exercise
of stock options 114,192 1,142 1,159,569
Tax benefit realized upon exercise
of stock options 499,127
Forfeiture of stock options (110,758)
Net income
- ----------------------------------------------------------------------------------------------------------------------
Balances, September 30, 1996 14,677,150 146,772 1,338,894 (23,679,979) 42,866,758
Employee Stock Purchase issuances (69,402) 1,274,391 (740,064)
Issuance of stock options at below
market prices 1,892,015
Stock compensation
Issuance of stock upon exercise of
stock options, net of withholding 50,106 501 379,720
Tax benefit realized upon exercise
of stock options 159,617
Forfeiture of stock options (154,944)
Net loss
- ----------------------------------------------------------------------------------------------------------------------
Balances, September 30, 1997 14,727,256 147,273 1,269,492 (22,405,588) 44,403,102
Issuance of stock for acquisitions 775,837 7,758 21,829,797
Purchase of treasury stock, at cost 15,000 (153,750)
Employee Stock Purchase issuances (37,398) 664,526 (192,897)
Issuance of stock options at below
market prices 977,697
Stock compensation
Issuance of stock upon exercise of
stock options, net of withholding 287,882 2,879 2,307,742
Tax benefit realized upon exercise
of stock options 1,305,001
Forfeiture of stock options (169,319)
Foreign currency translation adjustment
Net loss
- ----------------------------------------------------------------------------------------------------------------------
Balances, September 30, 1998,
As Restated-See Notes 2 and 3 15,790,975 $ 157,910 1,247,094 $(21,894,812) $ 70,461,123
======================================================================================================================
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
Continued Next Page
29
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA (CONTINUED)
Consolidated Statements of Stockholders' Equity
For the years ended September30, 1998, 1997 and 1996
<TABLE>
<CAPTION>
Unearned Total
Retained Stock Cumulative Stockholders'
Earnings Compensation Translation Equity
------------------------------------------------------------
<S> <C> <C> <C> <C>
Balances, September 30, 1995 $ 81,604,526 $ (598,387) $ 105,826,547
Purchase of treasury stock, at cost (7,249,325)
Employee stock purchase issuances 200,888
Issuance of stock options at below
market prices 0 (12,500)
Stock compensation 204,973 204,973
Issuance of stock upon exercise
of stock options 1,160,711
Tax benefit realized upon exercise
of stock options 499,127
Forfeiture of stock options 110,758
Net income 9,300,220 9,300,220
- -------------------------------------------------------------------------------------------------------------
Balances, September 30, 1996 90,904,746 (295,156) 109,943,141
Employee Stock Purchase issuances 534,327
Issuance of stock options at below
market prices (1,892,015)
Stock compensation 244,569 244,569
Issuance of stock upon exercise of
stock options, net of withholding 380,221
Tax benefit realized upon exercise
of stock options 159,617
Forfeiture of stock options 154,944
Net loss (15,790,844) (15,790,844)
- -------------------------------------------------------------------------------------------------------------
Balances, September 30, 1997 75,113,902 (1,787,658) 95,471,031
Issuance of stock for acquisitions 21,837,555
Purchase of treasury stock, at cost (153,750)
Employee Stock Purchase issuances 471,629
Issuance of stock options at below
market prices (977,697)
Stock compensation 895,401 895,401
Issuance of stock upon exercise of
stock options, net of withholding 2,310,621
Tax benefit realized upon exercise
of stock options 1,305,001
Forfeiture of stock options 169,319
Foreign currency translation adjustment (815,809) (815,809)
Net loss (71,096) (71,096)
- -------------------------------------------------------------------------------------------------------------
Balances, September 30, 1998,
As Restated-See Notes 2 and 3 $ 75,042,806 $ (1,700,635) $ (815,809) $ 121,250,583
=============================================================================================================
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
30
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS DESCRIPTION
Digi International is a leading worldwide provider of data communications
products for open systems, server-based remote access, Internet telephony,
and local area network (LAN) applications. Digi's communications products
support a broad range of server platforms and network operating systems that
enable people to access information.
Digi's products are marketed through a global network of distributors, system
integrators, original equipment manufacturers (OEMs), as well as thousands of
value-added resellers (VARs).
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.
CASH EQUIVALENTS AND MARKETABLE SECURITIES
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents, while those
having original maturities in excess of three months are classified as
marketable securities and generally consist of U.S. Government and U.S.
Government-backed obligations and high-grade commercial paper. Marketable
securities classified as held to maturity are carried at amortized cost.
Marketable securities classified as trading or available-for-sale are
recorded at market value. The Company had no marketable securities as of
September 30, 1998 or 1997.
REVENUE RECOGNITION
Sales are recognized to distributors, VARs, and end-users at the date of
shipment. Estimated warranty costs and customer returns are recorded at the
time of sale.
The Company offers rebates to authorized domestic and international
distributors and authorized resellers. The rebates are incurred based on the
level of sales to the respective distributors and resellers, and are charged
to operations in the same period as the corresponding sales.
INVENTORIES
Inventories are stated at the lower of cost or fair market value, with cost
determined on the first-in, first-out method. Fair market value for raw
materials is based on replacement cost and for other inventory
classifications based on net realizable value. Appropriate consideration is
given to deterioration, obsolescence and other factors in evaluating net
realizable value.
31
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PROPERTY, EQUIPMENT AND IMPROVEMENTS
Property, equipment and improvements are carried at cost. Depreciation is
provided by charges to operations using the straight-line method based on
estimated useful lives, ranging from three to 39 years.
Expenditures for maintenance and repairs are charged to operations as
incurred, while major renewals and betterments are capitalized. The assets
and related accumulated depreciation accounts are adjusted for asset
retirements and disposals with the resulting gain or loss included in
operations.
The Company's cost of business process reengineering activities, whether done
internally or by third parties, is expensed as incurred.
INTANGIBLE ASSETS
Purchased proven technology, license agreements, covenants not to compete and
other intangible assets are recorded at cost. Goodwill represents the excess
of cost over the fair value of identifiable assets acquired and is being
amortized on a straight-line basis over periods ranging from five to 15
years. Purchased in process research and development costs (IPR&D) are
expensed upon consummation of the purchase. All other intangible assets are
amortized on a straight-line basis over their estimated useful lives of one
to seven years.
The Company periodically, at least quarterly, analyzes intangible assets for
potential impairment, assessing the appropriateness of lives and
recoverability of unamortized balances through measurement of undiscounted
operating cash flows on a basis consistent with generally accepted accounting
principles.
RESEARCH AND DEVELOPMENT
Research and development costs are expensed when incurred. Software
development costs are expensed as incurred. Such costs are required to be
expensed until the point that technological feasibility and proven
marketability of the product are established. Costs otherwise capitalized
after such point also are expensed because they are insignificant.
INCOME TAXES
Deferred income taxes are recognized for the tax consequences in future years
of differences between the tax bases of assets and liabilities and their
financial reporting amounts at each year end based on enacted tax laws and
statutory tax rates applicable to the periods in which the differences are
expected to affect taxable income. Income tax expense is the tax payable for
the period and the change during the period in deferred tax assets and
liabilities.
32
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INCOME TAXES (CONTINUED)
Tax credits are accounted for under the flow-through method, which recognizes
the benefit in the year in which the credit is utilized.
INCOME (LOSS) PER COMMON SHARE
Net income (loss) per share has been calculated for all periods pursuant to
the provisions of Statement of Financial Accounting Standards No. 128, which
the Company adopted in the first quarter of fiscal 1998. Basic net income
(loss) per share is calculated based on only the weighted average of common
shares outstanding during the period. Net income (loss) per share, assuming
dilution, is computed by dividing net income (loss) by the weighted average
number of common and common equivalent shares outstanding. The Company's only
common stock equivalents are those that result from dilutive common stock
options. The calculation of diluted earnings per common share for 1996
includes 259,904 of such common stock equivalents. The calculation of diluted
loss per common share for 1998 and 1997 excludes 835,670 and 236,165
equivalent shares, respectively, of the Company's common stock attributable
to common stock options because their effect would be antidilutive.
FOREIGN CURRENCY TRANSLATION
Financial position and results of operations of the Company's international
subsidiaries generally are measured using local currencies as the functional
currency. Assets and liabilities of these operations are translated at the
exchange rates in effect at each fiscal year-end. Statements of operations
accounts are translated at the average rates of exchange prevailing during
the year. Translation adjustments arising from the use of differing exchange
rates from period to period are included in the cumulative translation
account in stockholders' equity.
USE OF ESTIMATES
The preparation of consolidated 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 period. Actual results could differ from those
estimates. The most significant areas which require the use of management's
estimates relate to the determination of the estimated fair value and lives
of acquired in-process research and development and other acquired intangible
assets, allowances for obsolete inventories, uncollectable accounts
receivable and sales returns and accruals for warranty costs.
33
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
NEW ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income." The
statement establishes standards for the reporting and display of
comprehensive income and its components. Comprehensive income is defined as
the change in equity of a business enterprise during a period from
transactions and other events and circumstances from non-owner sources. It
includes all changes in equity during a period except those resulting from
investments by owners and distributions to owners. This standard will require
that an enterprise display an amount representing total comprehensive income
for the period. Statement No. 130 will be initially effective for the first
quarter of the Company's fiscal year ending September 30, 1999. Adoption of
Statement of Financial Accounting Standards No. 130 will not impact the
results of operations or the financial position of the Company.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information," which supersedes Statement No. 14. This
statement changes the way that public business enterprises report segment
information, including financial and descriptive information about their
operating segments, in annual financial statements and would require that
those enterprises report selected segment information in interim financial
reports to stockholders. Operating segments are defined as revenue-producing
components of the enterprise which are generally used internally for
evaluating segment performance. Statement No. 131 will be effective for the
Company beginning with the first quarter of the Company's fiscal year ending
September 30, 1999. Management has not yet completed its analysis of the
effects of this Statement on its financial reporting.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities." Statement No. 133 will be effective for
the Company beginning with the Company's fiscal year ending September 30,
2000. As the Company presently has no derivative instruments and is not
involved in hedging activity, the Company does not expect the adoption of
Statement No. 133 to have an impact on the results of operations or the
financial position of the Company.
In October 1997, Statement of Position 97-2, "Software Revenue Recognition"
(SOP 97-2), was issued. SOP 97-2 provides guidance on when revenue should be
recognized and in what amounts for licensing, selling, leasing or otherwise
marketing computer software. SOP 97-2 will become effective for the Company's
fiscal year ending September 30, 1999. The adoption of SOP 97-2 is not
expected to have a significant impact on the results of operations or
financial position of the Company.
34
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. RESTATEMENT
After discussion with the staff of the Securities and Exchange Commission (the
SEC) the consolidated financial statements as of September 30, 1998 and for the
year ended September 30, 1998 have been restated to reflect a change in the
measurement and allocations of the purchase prices related to the July 1998
acquisitions of ITK and CDC.
The Company allocated amounts to IPR&D and intangible assets in the fourth
quarter of 1998 in a manner consistent with widely recognized appraisal
practices at the date of the acquisitions of ITK and CDC. Subsequent to the
acquisitions, the SEC staff expressed broad views that took issue with certain
appraisal practices generally employed by many public companies in determining
the fair value of IPR&D. As a result of these developments, the Company has
modified its valuation of IPR&D using the alternative income valuation approach.
In addition, in response to questions raised by the SEC Staff about the
Company's measurement of the fair value of common stock and common stock options
issued in the ITK and CDC acquisitions, the Company has revised its valuation of
this portion of the purchase prices.
As a result of valuing IPR&D using the alternative income valuation approach
and adjusting the measurement of the purchase prices, the Company, in
consultation with their independent accountants, has revised its measurement
and allocations of the purchase prices, including the amounts allocated to
IPR&D. The effect of these adjustments was to; reduce the aggregate amount
originally allocated to IPR&D from $39.2 million to $16.1 million; increase
the aggregate amount allocated to current technologies from $15.0 to $29.1
million; increase the amount of net deferred tax liabilities from $0 to $6.3
million; increase goodwill from $8.2 million to $27.4 million; increase
additional paid in-capital from $68.7 million to $70.5 million; and reduce
unearned stock compensation from $3.8 million to $1.7 million. These
adjustments will also result in additional, annual amortization expense,
related to identifiable intangibles and goodwill of approximately $5.0
million (assuming there are no future adjustments to reflect impairments of
such intangibles and goodwill). The revised purchase accounting for the ITK
and CDC acquisitions is described in detail in Note 3.
The restatement does not affect previously reported net cash flows for the
periods. The effect of this reallocation on previously reported consolidated
financial statements as of and for the year ended September 30, 1998 is as
follows:
35
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. RESTATEMENT (CONTINUED)
<TABLE>
<CAPTION>
As of and for the year ended
September 30, 1998
--------------------------------------
As previously
reported As restated
-------------- ---------------
<S> <C> <C>
Statement of Operations Data:
General and administrative expenses $ 16,003,146 $ 17,011,504
Acquired in-process research and development 39,200,000 16,064,933
Total operating expenses 110,474,583 88,347,874
Operating (loss) income (16,082,069) 6,044,640
Loss before income taxes (12,913,783) 9,212,926
Provision for income taxes 9,745,088 9,284,021
Net loss $ (22,658,871) $ (71,096)
Net loss per common share, basic $ (1.65) $ (0.01)
Net loss per common share, assuming dilution $ (1.65) $ (0.01)
Balance Sheet Data:
Intangible assets, net $ 31,354,483 $ 63,602,435
Total assets 160,734,667 192,982,619
Net deferred income taxes 5,817,933
Total liabilities 65,914,103 71,732,036
Additional paid-in capital 68,695,448 70,461,123
Retained earnings 52,455,031 75,042,806
Unearned stock compensation (3,777,204) (1,700,635)
Total stockholders' equity $ 94,820,564 $ 121,250,583
</TABLE>
3. ACQUISITIONS
In July 1998, the Company acquired all of the outstanding common stock of ITK
International, Inc. (ITK). The transaction was accounted for using the purchase
method of accounting. Accordingly, the purchase price was allocated to the
estimated fair value of assets acquired and liabilities assumed, including
estimated restructuring and integration costs of $3,484,000 (see Note 4).
36
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITIONS (CONTINUED)
Components of the purchase consideration, including related transaction costs,
consist of $14,767,154 in cash, the Company's common stock with a market value
of $12,501,183 and $2,316,415 of replacement stock options issued by the Company
to ITK option holders. The cash and the Company's common stock were issued in
exchange for outstanding shares of ITK's common stock and the Company's stock
options were issued in exchange for the outstanding ITK common stock options.
The value of the Company's common stock issued was based on a per share value of
approximately $21.69, calculated as the average market price of the Company's
common stock during the two business days immediately preceding and subsequent
to the date the parties reached agreement on terms and announced the
transaction. The value of the Company's common stock options is based on the
estimated fair value of these options, as of the date the transaction was
consummated, using the Black-Scholes valuation model.
The table below is an analysis of the purchase price allocation.
<TABLE>
<S> <C>
Cash and fair value of Company's common
stock and common stock options issued $28,146,369
Direct acquisition costs 1,438,383
ITK liabilities assumed, including estimated
restructuring and integration costs of $3,484,000 39,784,248
-----------
Total purchase price 69,369,000
Estimated fair value of tangible assets
acquired, including $5,772,000 of deferred tax assets 27,440,814
Estimated fair value of:
IPR&D 11,330,100
Identifiable intangible assets 21,100,000
Goodwill 17,727,086
Deferred tax liabilities related to identifiable intangibles (8,229,000)
-----------
$69,369,000
-----------
-----------
</TABLE>
The Company utilized the alternative income valuation approach to determine the
estimated fair value of the purchased in-process research and development.
Management estimates that $11.3 million of the purchase price represents the
fair value of purchased in-process research and development related to the VoIP
projects referred to above, that had not yet reached technological feasibility
and had no alternative future uses. These amounts were expensed as a
non-recurring, non tax-deductible charge upon consummation of the acquisition.
It is not certain that development efforts on these projects will allow for
carrier class telephone company and end-user specifications to be met. Failure
to achieve these specifications or to achieve market viability will cause the
in-process Voice over Internet Protocol technology (VoIP) projects to fail. If
these products are not successfully developed, the sales and profitability of
the combined Company may be adversely affected in future periods. Additionally,
the value of other identifiable intangible assets and goodwill acquired may
become impaired.
37
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITIONS (CONTINUED)
The identifiable intangible assets of $21,100,000 included in the purchase price
allocation set forth above are comprised of proven technology with an estimated
fair value of $19,700,000 and an assembled workforce with an estimated fair
value of $1,400,000, which have estimated useful lives of five years and six
years, respectively. The remaining unallocated purchase price represents
goodwill, which is being amortized over seven years.
In July 1998, the Company acquired all of the outstanding common stock of
Central Data Corporation (CDC). The transaction was accounted for using the
purchase method of accounting. Accordingly, the purchase price was allocated to
the estimated fair value of assets acquired and liabilities assumed, including
estimated restructuring and integration costs of $750,000 (see Note 4).
Components of the purchase consideration, including related transaction costs,
consist of $14,261,965 in cash, the Company's common stock with a market value
of $4,326,721 and $2,693,236 of replacement stock options issued by the Company
to CDC option holders. The cash and the Company's common stock were issued in
exchange for outstanding shares of CDC's common stock and the Company's stock
options were issued in exchange for the outstanding CDC common stock options.
The value of the Company's common stock issued was based on a per share value of
approximately $21.69, calculated as the average market price of the Company's
common stock during the two business days immediately preceding and subsequent
to the date the parties reached agreement on terms and announced the
transaction. The value of the company's common stock options is based on the
estimated fair value of these options, as of the date the transaction was
consummated, using the Black-Scholes valuation model.
The table below is an analysis of the purchase price allocation.
<TABLE>
<S> <C>
Cash and fair value of Company's common
stock and common stock options issued $ 20,980,482
Direct acquisition costs 301,440
CDC liabilities assumed, including estimated
restructuring and integration costs of $750,000 4,394,617
------------
Total purchase price 25,676,539
Estimated fair value of tangible assets acquired 5,252,408
Estimated fair value of:
IPR&D 4,734,833
Identifiable intangible assets 9,800,000
Goodwill 9,711,298
Deferred tax liabilities related to identifiable intangibles (3,822,000)
------------
$ 25,676,539
------------
------------
</TABLE>
38
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITIONS (CONTINUED)
The Company utilized the alternative income valuation approach to determine the
estimated fair value of the purchased in-process research and development.
Management estimates that $4.7 million of the purchase price represents the fair
value of purchased in-process research and development related to the USB
projects referred to above, that had not yet reached technological feasibility
and had no alternative future uses. These amounts were expensed as a
non-recurring, non tax-deductible charge upon consummation of the acquisition.
It is not certain that development efforts on these projects will allow for user
specifications to be met or commercial viability to be achieved. Failure to
achieve these specifications or to achieve market viability will cause the
Universal Serial Bus (USB) projects to fail. If these products are not
successfully developed, the sales and profitability of the combined Company may
be adversely affected in future periods. Additionally, the value of other
identifiable intangible assets and goodwill acquired may become impaired.
The identifiable intangible assets of $9,800,000 included in the purchase price
allocation set forth above are comprised of proven technology with an estimated
fair value of $9,400,000, and an assembled workforce with an estimated fair
value of $400,000, which have estimated useful lives of five years and six
years, respectively. The remaining unallocated purchase price represents
goodwill, which is being amortized over seven years.
The following unaudited pro forma condensed consolidated results of operations
have been prepared as if the acquisitions of ITK and CDC had occurred as of the
beginning of fiscal 1998 and 1997:
<TABLE>
<CAPTION>
YEARS 1998 1997
- --------------------------------------------------------------
<S> <C> <C>
Net sales $220,271,670 $194,605,937
Net loss ($20,206,426) ($76,316,007)
Net loss per share ($1.36) ($5.39)
</TABLE>
The unaudited pro forma condensed consolidated results of operations are not
necessarily indicative of results that would have occurred had the acquisitions
been in effect for the years presented, nor are they necessarily indicative of
the results that will be obtained in the future.
4. RESTRUCTURING
In July 1998, the Company's Board of Directors approved a restructuring plan
related to the consolidation of its offices in Germany and England. The
restructuring plan relates to the closure of existing leased facilities rendered
redundant by the acquisition of ITK. The charge of $1,020,000 ($647,000 net of
tax benefits), consisted of $61,483 of noncancellable rent commitments the
Company expects to incur following the closure of the Cologne, Germany facility,
$100,100 of contractual payment obligations for office furniture and other
equipment the Company expects to incur following the closure of the Cologne,
Germany facility, $202,039 related to the write-off of leasehold improvements
due to the closure of the Cologne, Germany facility and $656,368 of termination
39
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. RESTRUCTURING (CONTINUED)
payments associated with the elimination of six positions in Cologne, Germany
and Bagshot, England. The Company's plan is to close the Cologne facility during
December 1998. No employees have been terminated and no cash payments or other
adjustments have been recorded relating to these restructuring activities as of
September 30, 1998. Management of the Company expects that these restructuring
activities will be completed by June 1999. A summary of payments and
adjustments is included in the table below.
<TABLE>
<CAPTION>
- ------------------------------------------------- --------------- --------------- ---------------- ----------------
Change in Balance at
Beginning Estimate September 30,
Description Balance Payments Adjustments 1998
- ------------------------------------------------- --------------- --------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Severance and termination costs $ 656,368 $ 656,368
Rent commitments 61,483 61,483
Contractual payments for office equipment 100,110 100,110
Write-offs of leasehold improvements 202,039 202,039
--------------- --------------- ---------------- ----------------
TOTAL $1,020,000 $- $- $ 1,020,000
--------------- --------------- ---------------- ----------------
</TABLE>
In connection with the Company's acquisition of ITK, the Company has formulated
a plan of reorganization and accordingly, has recognized a $3,484,000
restructuring liability which the Company has included as a component of total
liabilities assumed in the acquisition. Components of this estimated liability
include $1,844,000 of termination payments associated with 10 employees the
Company expects to eliminate at the Chelmsford, Massachusetts ITK location and
20 employees the Company expects to eliminate at the Dortmund, Germany location
and $1,640,000 of noncancellable rent obligations for facilities the Company
expects to incur following closure of facilities in Chelmsford, Massachusetts
and Bristol and Newbury, England. The Company vacated the Chelmsford, Bristol,
and Newbury facilities in March 1999, October 1998 and May 1999, respectively.
As of September 30, 1998, the Company has vacated no facilities, no employees
have been terminated and no cash payments or other adjustments have been
recorded relating to these restructuring activities. Management of the Company
expects to complete these restructuring activities by June 1999. A summary of
payments and adjustments is included in the table below.
<TABLE>
<CAPTION>
- ------------------------------------------------- --------------- --------------- ---------------- ----------------
Change in Balance at
Beginning Estimate September 30,
Description Balance Payments Adjustments 1998
- ------------------------------------------------- --------------- --------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Severance and termination costs $1,844,000 $ 1,844,000
Facility closures 1,640,000 1,640,000
--------------- --------------- ---------------- ----------------
TOTAL $3,484,000 $- $- $ 3,484,000
--------------- --------------- ---------------- ----------------
</TABLE>
In connection with the Company's acquisition of CDC, the Company has formulated
a plan of reorganization and accordingly, the Company has recognized a $750,000
restructuring liability which the Company has included as a component of total
liabilities assumed in the acquisition. Components of this estimated liability
include $675,000 of termination payments, associated with 22 employees the
Company expects to eliminate when it closes the Champaign, Illinois facility in
January 1999 and
40
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. RESTRUCTURING (CONTINUED)
$75,000 related to facility closure costs the Company expects to incur following
closure and sale of the Champaign, Illinois facility. As of September 30, 1998,
the facility had not yet been closed or sold, no employees had been terminated
and no cash payments or other adjustments have been recorded related to these
restructuring activities. Management of the Company expects to complete these
restructuring activities by June 1999. A summary of payments and adjustments
is included in the table below.
<TABLE>
<CAPTION>
- ------------------------------------------------- --------------- --------------- ---------------- ----------------
Change in Balance at
Beginning Estimate September 30,
Description Balance Payments Adjustments 1998
- ------------------------------------------------- --------------- --------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Severance and termination costs $ 675,000 $ 675,000
Facility closure 75,000 75,000
--------------- --------------- ---------------- ----------------
TOTAL $ 750,000 $- $- $ 750,000
--------------- --------------- ---------------- ----------------
</TABLE>
In February 1997, the Company's Board of Directors approved a restructuring
plan that resulted in a restructuring charge of $10,471,482 ($8,283,681, net
of tax benefits or $0.62 per share). The corporate restructuring plan
resulted in consolidation and reduced costs and expenses. It included the
closing of the Cleveland manufacturing facility, the reduction of selected
product lines and the consolidation and closing of the Torrance, California
and Nashville, Tennessee research and development facilities. These costs
included: (i) write downs of the carrying values of fixed assets related to
the closed manufacturing and research and development facilities, (ii) write
downs of the carrying values of goodwill and identifiable intangible assets
(primarily licensing agreements related to the discontinued product lines)
and related inventories, and (iii) severance costs associated with the
elimination of 105 positions. These restructuring activities were completed
in fiscal year 1997.
The restructuring charge consisted of $1,259,769 in net cash expenditures
(primarily severance), of which all had been paid as of September 30, 1997,
and $9,211,713 resulting from the write-down of asset carrying values.
5. RECLASSIFICATION OF CERTAIN EXPENSES
Certain costs relating to systems support and communications costs, which
previously were included in general and administrative expenses, have been
reclassified into sales and marketing and research and development expenses for
the years September 30, 1997 and 1996. Such amounts were $2,647,207 in 1997 and,
$2,707,024 in 1996. These reclassifications had no impact on previously reported
operating income, or net income.
6. INVESTMENT IN AETHERWORKS CORPORATION
In May 1998, the Company exchanged its previously purchased $13,796,525 of
convertible notes from AetherWorks Corporation, a development stage company
engaged in the development of wireless and dial-up remote access technology, for
a non-interest bearing $8,000,000 non-convertible note. As a part of the
exchange, the Company relinquished its rights to any future technology or claims
on any of AetherWorks' intellectual properties. In exchange, the Company has
been released from all of its
41
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. INVESTMENT IN AETHERWORKS CORPORATION (CONTINUED)
guarantees of certain lease obligations of AetherWorks. As a result, the
Company has reversed its $1,350,000 accrual established in the fourth quarter
of 1997, for the estimated cost related to its guarantee of such lease
obligations and has included such amount in AetherWorks Corporation gain for
the year ended September 30, 1998.
Due to the significant uncertainty as to its collectibility, the $8,000,000
note, which matures in 2001, has been recorded by the Company as having no
carrying value.
The Company continues to lease to AetherWorks $1,325,000 of computer equipment
under a three-year direct financing lease, expiring in 2000.
For the years 1997 and 1996, the Company has reported its investment in
AetherWorks on the equity method and reported net losses of $5,764,201 and
$3,623,776, respectively. These losses, which exclude $5,758,548 of
additional charges accrued as of September 30, 1997 as described below,
represent 100% of AetherWorks net losses for the two years. The percentage of
AetherWorks net losses included in the Company's Statement of Operations was
based upon the percentage of financial support provided by the Company
(versus other investors) to AetherWorks during such years.
Because of the significant uncertainty of the future of AetherWorks
Corporation, as demonstrated by its lack of ability to generate positive cash
flow, obtain other sources of equity financing and its continued uncertainty
in developing commercially marketable products, the Company decided, as of
September 30, 1997, to write off its remaining investment of $2,408,548 in
AetherWorks, and to accrue and expense its remaining obligation to purchase
$2,000,000 of additional notes. In addition, the Company also accrued
$1,350,000 for its obligation resulting from its guarantees of certain
AetherWorks' lease obligations as of September 30, 1997.
The following represents condensed financial information from the audited
statements of AetherWorks for the years ended September 30, 1997 and 1996:
<TABLE>
<CAPTION>
BALANCE SHEET DATA,
AS OF SEPTEMBER 30, 1997 1996
---- ----
<S> <C> <C>
Current assets $ 955,695 $ 104,307
Fixed assets 4,813,266 3,993,731
Total assets 5,578,887 4,407,779
Current liabilities 1,467,836 3,942,032
Notes payable 16,016,747 6,105,467
Stockholders' deficit (11,905,696) (5,639,720)
OPERATING DATA FOR THE YEAR ENDED
SEPTEMBER 30, Operating expenses:
Research and development $ 3,505,134 $ 2,567,844
General and administrative 2,069,304 999,247
Other 1,169,345 481,007
Eliminations (979,582) (424,322)
-------------- --------------
Net loss $ (5,764,201) $ (3,623,776)
============== ===============
</TABLE>
42
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. INVESTMENT IN AETHERWORKS CORPORATION (CONTINUED)
The "eliminations line" item represents interest expense payable to the
Company for interest due on the notes issued by AetherWorks to the Company.
This amount is excluded from the AetherWorks loss as the Company has
eliminated the corresponding interest income from its Consolidated Statements
of Operations.
43
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. SELECTED BALANCE SHEET DATA
<TABLE>
<CAPTION>
1998 1997
(As restated--See Note
2 and 3)
----------------------------------------
<S> <C> <C>
Accounts receivable, net:
Trade accounts receivable $ 53,618,657 $ 28,225,088
Less reserve for returns and
doubtful accounts 5,069,512 2,566,566
------------ ------------
$ 48,549,145 $ 25,658,522
============ ============
Inventories, net:
Raw materials $ 16,814,657 $ 10,160,377
Work in process 2,922,442 8,704,357
Finished goods 10,735,483 7,011,357
------------ ------------
30,472,582 25,876,091
Less reserve for obsolescence 3,106,658 2,192,779
------------ ------------
$ 27,365,924 $ 23,683,313
============ ============
Property, equipment and improvements:
Land $ 2,774,300 $ 1,800,000
Buildings 19,912,614 10,522,285
Improvements 554,932 629,240
Equipment 20,859,857 18,377,899
Purchased software 6,968,127 5,186,787
Furniture and fixtures 929,889 927,859
------------ ------------
51,999,720 37,444,070
Less accumulated depreciation 18,008,797 13,826,374
------------ ------------
$ 33,990,923 $ 23,617,696
============ ============
Intangible assets:
Purchased technology $ 30,010,858 $ 910,859
License agreements 3,476,400 1,133,900
Assembled workforce 1,800,000
Other 1,483,836 1,772,035
Goodwill 33,802,679 6,364,242
------------ ------------
70,573,772 10,181,036
Less accumulated amortization 6,971,337 3,304,439
------------ ------------
$ 63,602,435 $ 6,876,597
============ ============
</TABLE>
44
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. BORROWING UNDER LINE OF CREDIT AGREEMENTS
The Company maintains lines of credit with various financial institutions
which provide for borrowings of up to $25,707,000. As of September 30, 1998,
$10,707,000 has been borrowed under these line of credit agreements. These
line of credit agreements are uncollateralized and provide for interest rates
ranging from 4.5% to 10.6% as of September 30, 1998.
9. LONG-TERM DEBT
Long-term debt consists of the following at September 30, 1998
<TABLE>
<CAPTION>
<S> <C>
5.5% fixed rate long-term collateralized note $ 1,854,490
5.2% fixed rate long-term collateralized note 1,256,240
6.0% fixed rate long-term collateralized note 538,450
6.3% fixed rate long-term collateralized note 4,784,959
Variable rate long-term collateralized note 250,000
Long-term collateralized mortgage note 623,471
6.0% fixed rate long-term uncollateralized note 1,555,010
6.0% to 10.6% subsidized long-term notes 525,851
------------
$ 11,388,471
Less current portion 264,025
------------
$ 11,124,446
------------
------------
</TABLE>
The 5.5% fixed rate long-term note is payable in semi-annual installments
beginning September 2000. The 5.2% fixed rate long-term note is payable in
semi-annual installments beginning June 2001. The 6.0% fixed rate long-term
note is due in full on September 30, 2003. The 6.3% fixed rate long-term note
is payable in semi-annual installments beginning March 2000. These notes are
collateralized by land, buildings and equipment with a book value of
$10,576,458. Interest on the notes is payable on a quarterly basis.
The variable rate long-term collateralized note is payable in quarterly
principal payments and monthly interest payments. The interest rate is the
bank's lending rate plus 0.75%. This rate as of September 30, 1998 was 9.25%.
The note is collateralized by accounts receivable, inventory and property and
equipment with a book value of $4,713,573.
The Long-term mortgage note bears interest at a fixed rate of 8.85% through
February 2003 and then at prime plus 2.5%. The rate of interest is subject to
adjustment every five years with a maximum rate of 12.5% for years 10-15 and
14.5% for years 15-20. The note and interest is payable in monthly
installments. The note is collateralized by a building and certain equipment
of the Company.
45
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. LONG-TERM DEBT (CONTINUED)
The 6.0% fixed rate long-term uncollateralized note is due in full in
November 2001. Interest is payable annually.
The subsidized long-term notes bear interest rates ranging from 6% to 10.6%
and are due at various dates through 2006. All borrowings under these notes
are uncollateralized.
Aggregate maturities of long-term debt are as follows:
<TABLE>
<CAPTION>
FISCAL
YEAR AMOUNT
---- ------
<S> <C>
1999 264,025
2000 436,291
2001 462,562
2002 2,048,046
2003 1,131,762
Thereafter 7,045,785
------------
$ 11,388,471
------------
</TABLE>
10. INCOME TAXES
The components of the provision for income taxes for the years ended
September 30, 1998, 1997, and 1996 are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ----------- ------------
<S> <C> <C> <C>
Currently
payable:
Federal $ 9,768,928 $ 1,737,116 $ 6,977,337
State 766,704 142,457 920,956
Deferred (1,251,611) (1,787,933) (393,153)
------------ ----------- ------------
$ 9,284,021 $ 91,640 $ 7,505,140
------------ ----------- ------------
------------ ----------- ------------
</TABLE>
The net deferred tax (liability) asset as of September 30, 1998 and 1997
consists of the following:
<TABLE>
<CAPTION>
1998 1997
------------- -----------
<S> <C> <C>
Valuation reserves $ 2,673,443 $ 1,740,540
Inventory valuation 430,501 800,364
Compensation costs 1,007,367 248,470
Net operating loss carryforwards 5,772,000 -
Intangible asset basis difference (11,589,933) -
Other 102,133 193,525
------------ -----------
Net deferred tax (liability) asset $(1,604,489) $2,982,899
============ ===========
</TABLE>
46
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10. INCOME TAXES (CONTINUED)
As of September 30, 1998, the net deferred tax liability consists of current
deferred tax assets of $4,213,444 and net non-current deferred tax
liabilities of $5,817,933. As of September 30, 1998, the Company has recorded
$11,589,933 of deferred tax liabilities related to the identifiable
intangible assets that were acquired as part of the ITK and CDC acquisitions.
These deferred tax liabilities are being amortized over the estimated useful
lives of the related identifiable intangible assets acquired. As of September
30, 1997, the net deferred tax asset consists of current deferred tax assets
of $2,982,899.
As of September 30, 1998, the Company had federal net operating loss
carryforwards of approximately $14,800,000 available to offset future taxable
income, which expire at various dates through 2011. Utilization of such net
operating loss carryforwards is presently limited to offset taxable income,
if any, generated by ITK.
The reconciliation of the statutory federal income tax rate with the
effective income tax rate for the years ended September 30, 1998, 1997, and
1996 is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------ ------- ------
<S> <C> <C> <C>
Statutory income tax rate 35.0% (34.0)% 35.0%
Increase (reduction) resulting from:
Utilization of research and development tax credits - (0.9) (1.7)
Utilization of low income housing credits (3.9) 1.7 -
State taxes, net of federal benefits 5.4 - 3.6
AetherWorks Corporation net operating loss - 12.5 8.0
AetherWorks Corporation write-off - 9.6 -
Acquired in-process research and development 61.0 - -
Restructuring charges - 9.3 -
Tax contingencies - 4.7 -
Foreign and other 3.3 (2.8) (0.2)
------ ------- ------
100.8% 0.1% 44.7%
------ ------- ------
------ ------- ------
</TABLE>
47
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. STOCK OPTIONS AND EMPLOYEE STOCK PURCHASE PLAN
The Company's stock option plan (the Stock Option Plan) provides for the
issuance of nonstatutory stock options and incentive stock options (ISOs) to
key employees and nonemployee board members holding less than 5% of the
outstanding shares of the Company's common stock. The Company's Non-Officer
Stock Option Plan (the Non-Officer Plan and, together with the Stock Option
Plan, the Plans), provides for the issuance of nonstatutory stock options to
key employees who are not officers or directors of the Company.
The option price for ISOs and non-employee directors options granted under
the Stock Option Plan is set at the fair market value of the Company's common
stock on the date of grant. The option price for nonstatutory options granted
under the Plans is set by the Compensation Committee of the Board of
Directors. The authority to grant options under the Plans and set other terms
and conditions rests with the Compensation Committee. The Stock Option Plan
terminates in 2006. The Non-Officer Plan does not have a designated
termination date.
During the years ended September 30, 1998, 1997, and 1996, 287,882, 50,106,
and 114,192 shares of the Company's Common Stock, respectively, were issued
upon the exercise of options for 289,353, 50,167, and 123,959 shares,
respectively. The difference between shares issued and options exercised
results from the provision in the Plans allowing employees to elect to pay
their withholding obligation through share reduction. Withholding taxes paid
by the Company as a result of the share withholding provision amounted to
$28,871 in 1998, $5,171 in 1997, and $186,927 in 1996.
During the year ended September 30, 1998 the Board of Directors authorized
the issuance of incentive stock options for the purchase of 486,631 shares.
In addition, the Board of Directors authorized the issuance of nonstatutory
stock options for the purchase of 543,461 shares, at prices below the market
value of the stock on the grant dates.
During the year ended September 30, 1997 the Board of Directors authorized
the cancellation and reissue of nonstatutory stock options to certain
employees for the purchase of 823,326 shares, at an exercise price below the
market value of the stock. Under this authorization, the original option
issues were canceled and new options were issued with a new four-year vesting
schedule. During the year ended September 30, 1996, the Board of Directors
authorized the issuance of nonstatutory stock options for the purchase of
2,500 shares at prices below the market value of the stock on the grant date.
The difference between the option price and market value at the date of grant
for the above option arrangements has been recorded as additional paid-in
capital with an offsetting debit within stockholders' equity to unearned
stock compensation. The compensation expense related to these option grants
is amortized to operations over the contractual vesting period in which
employees perform services and amounted to $1,012,440 in 1998, $244,569 in
1997, and $204,793 in 1996.
48
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. STOCK OPTIONS AND EMPLOYEE STOCK PURCHASE PLAN (CONTINUED)
Stock options and common shares reserved for grant under the Plans are as
follows:
<TABLE>
<CAPTION>
Weighted
Average
Available Options Price
For Grant Outstanding Per Share
------------ ----------- ---------
<S> <C> <C> <C>
BALANCES,
September 30, 1995 1,318,038 1,497,095 $ 16.41
Granted (1,186,525) 1,186,525 20.67
Exercised (123,95) 11.38
Cancelled 223,001 (223,001) 22.18
------------ -----------
BALANCES,
September 30, 1996 354,514 2,336,660 $ 18.14
Additional shares
approved for grant 500,000
Granted (1,509,701) 1,509,701 8.62
Exercised (50,617) 7.71
Cancelled 1,879,636 (1,879,636) 19.01
------------ ------------
BALANCES,
September 30, 1997 1,224,449 1,916,108 $ 10.01
Additional shares
approved for grant 750,000
Granted 1,254,525 1,254,525 $ 15.96
Exercised (289,353) 8.56
Cancelled 150,013 (150,013) 12.79
------------ ------------
BALANCES,
September 30, 1998 869,937 2,731,267 $ 12.75
------------ ------------
------------ ------------
</TABLE>
49
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. STOCK OPTIONS AND EMPLOYEE STOCK PURCHASE PLAN (CONTINUED)
Commencing April 1996, the Company has sponsored an Employee Stock Purchase
Plan (the Purchase Plan) which covers all domestic employees with at least 90
days of service. The Purchase Plan allows eligible participants the right to
purchase common stock on a quarterly basis at the lower of 85% of the market
price at the beginning or end of each three-month offering period. Employee
contributions to the plan were $658,118 in 1998, $534,327 in 1997, and
$200,888 in 1996. Pursuant to the Purchase Plan, 37,398, 69,402, and 8,835
shares were issued to employees during the fiscal years ended 1998, 1997 and
1996, respectively. As of September 30, 1998, 384,365 shares are available
for future issuances under the Purchase Plan.
12. STOCK-BASED COMPENSATION
In accordance with Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" (SFAS 123), the Company has chosen
to continue to account for stock-based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations. Accordingly,
compensation costs for stock options granted to employees are measured as the
excess, if any, of the fair value of the Company's stock at the date of the
grant over the amount an employee must pay to acquire the stock. Such
compensation costs, if any, are amortized on a straight-line basis over the
option vesting schedule.
Had the Company used the fair-value-based method of accounting for its stock
options granted in 1998, 1997 and 1996, and charged operations over the
option vesting periods based on the fair value of options at the date of
grant, net (loss) income and net (loss) income per common share would have
been changed to the following pro forma amounts:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ -----------
<S> <C> <C> <C>
Net (loss) income
As reported $ (71,096) $(15,790,844) $ 9,300,220
Pro forma $(3,244,657) $(17,449,611) $ 8,536,111
Net (loss) income per share - basic
As reported $ (0.01) $ (1.18) $ 0.70
Pro forma $ (0.24) $ (1.30) $ 0.64
Net (loss) income per share -assuming dilution
As reported $ (0.01) $ (1.18) $ 0.68
Per forma $ (0.24) $ (1.30) $ 0.63
</TABLE>
50
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
12. STOCK-BASED COMPENSATION (CONTINUED)
The weighted average fair value of options granted in fiscal years 1998, 1997
and 1996 was $12.29, $12.47 and $10.14, respectively. The weighted average
fair value was determined based upon the fair value of each option on the
grant date, utilizing the Black-Scholes option-pricing model and the
following assumptions:
<TABLE>
<CAPTION>
ASSUMPTIONS: 1998 1997 1996
- ------------ -------- ------- -------
<S> <C> <C> <C>
Risk free interest rate 5.49% 6.02% 5.99%
Expected option holding period 4 years 4 years 4 years
Expected volatility 60% 40% 50%
Expected dividend yield 0 0 0
</TABLE>
At September 30, 1998, the weighted average exercise price and remaining life
of the stock options are as follows:
<TABLE>
<CAPTION>
RANGE OF EXERCISE PRICES $0.50 $2.36-3.19 $3.78-3.92 $5.91-8.88 $9.40-14.00 $14.50-21.50 $22.00-29.25 TOTAL
- ------------------------ ------ ---------- ---------- ---------- ----------- ------------ ------------ ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Total options outstanding 3,000 146,451 32,418 1,166,807 295,751 770,965 315,875 2,731,267
Weighted average remaining
contractual life (years) 0.67 7.70 1.91 8.00 7.78 8.75 8.20 8.11
Weighted average exercise price $0.50 $2.53 $3.83 $7.73 $11.57 $17.98 $25.44 $12.75
Options exercisable 3,000 112,498 27,127 513,849 115,784 108,338 82,625 963,221
Weighted average exercise price
of exercisable options $0.50 $2.58 $3.84 $7.58 $11.87 $18.04 $24.17 $9.98
</TABLE>
13. SHARE RIGHTS PLAN
The Company has adopted a share rights plan. Under the plan, the Company
distributed as a dividend one right for each share of the Company's common
stock outstanding on June 30, 1998. Each right entitles its holder to buy one
one-hundredth of a share of a new series of junior participating preferred
stock at an exercise price of $115, subject to adjustment. The rights are
exercisable only if certain ownership considerations are met. The Company
will be entitled to redeem the rights prior to the rights becoming
exercisable.
51
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
14. COMMITMENTS
The Company has entered into various operating lease agreements, the last of
which expires in fiscal 2013. Below is a schedule of future minimum
commitments under noncancellable operating leases:
<TABLE>
<CAPTION>
FISCAL
YEAR AMOUNT
------ ---------
<S> <C>
1999 1,341,848
2000 1,143,148
2001 826,430
2002 385,510
2003 74,000
Thereafter 836,000
</TABLE>
Total rental expense for all operating leases for the years ended September
30, 1998, 1997 and 1996 was $1,786,715, $1,405,582 and $965,710, respectively.
15. EMPLOYEE BENEFIT PLAN
The Company has a savings and profit sharing plan pursuant to Section 401(k)
of the Internal Revenue Code ("the Code"), whereby eligible employees may
contribute up to 15% of their pre-tax earnings, not to exceed amounts allowed
under the Code. In addition, the Company may make contributions to the plan
at the discretion of the Board of Directors. The Company accrued $240,000 as
a matching contribution for 1998. No Company contribution was made in 1997 or
1996.
16. FOREIGN SALES AND MAJOR CUSTOMERS
Foreign export sales, primarily to Europe, comprised 21.1%, 23.9%, and 20.0%
of net sales for the years ended September 30, 1998, 1997 and 1996,
respectively.
During 1998, one customer accounted for 15.5% of net sales and 26% of the
trade accounts receivable as of September 30, 1998, while another accounted
for 13.7% of net sales and 10% of the trade accounts receivable as of
September 30, 1998.
During 1997, one customer accounted for 15.1% of net sales while another
accounted for 10.5% of net sales. In addition, one customer accounted for 28%
of the trade accounts receivable outstanding as of September 30, 1997.
During 1996, one customer accounted for 13.9% of net sales and 11.8% of
accounts receivable as of September 30, 1996, while another accounted for
13.4% of net sales and 14.3% of accounts receivable as of September 30, 1996.
52
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
17. GEOGRAPHIC SEGMENTS
Summary information regarding the Company's operations in the United States
and international markets is presented below. International consists
primarily of European operations.
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------- ------------
<S> <C> <C> <C>
NET SALES
United States $171,385,998 $160,181,397 $188,897,751
International 11,545,672 5,416,540 4,253,147
------------ ------------ ------------
Total $182,931,670 $165,597,937 $193,150,898
============ ============ ============
OPERATING INCOME (LOSS)
United States $ 23,511,411 $ 6,037,670 $ 19,682,936
International (381,838) 103,548 414,411
------------ ------------ ------------
Total (1) $ 23,129,573 $ 6,141,218 $ 20,097,347
============ ============ ============
IDENTIFIABLE ASSETS
United States $170,800,562 $116,100,151 $128,820,114
International 22,182,057 2,211,185 1,118,715
------------ ------------ ------------
Total $192,982,619 $118,311,336 $129,938,829
============ ============ ============
</TABLE>
(1) EXCLUDES ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT CHARGE OF
$16,064,933 FOR THE YEAR ENDED SEPTEMBER 30, 1998 AND ALSO EXCLUDES
$1,020,000 AND $10,471,482 OF RESTRUCTURING CHARGES FOR THE YEARS ENDED
SEPTEMBER 30, 1998 AND 1997, RESPECTIVELY.
18. FOURTH QUARTER INFORMATION (UNAUDITED)
During the third quarter of fiscal year 1998, management of the Company
established $3 million of inventory valuation reserves including $1 million
which related to an estimated overstatement of inventories resulting from
certain system difficulties encountered in connection with the implementation
of a new enterprise-wide computer system during the third quarter, and $2
million which related to estimated adjustments to the value of certain remote
access server products which the Company believed were approaching
technological obsolescence, primarily due to the expected introduction of the
Company's new remote access server products in the fourth quarter of fiscal
year 1998.
During the fourth quarter the Company was advised by a third-party vendor
that it would delay delivery of a new modem which was integral to the
Company's planned introduction of its new remote access server products. When
the Company became aware of this delay, management reassessed the estimated
timing and effect of technological obsolescence on the value of its old
remote access product inventories, which resulted in a $900,000 reduction in
the management's estimate of the required obsolescence provision in the
fourth quarter.
53
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
18. FOURTH QUARTER INFORMATION (UNAUDITED) (CONTINUED)
In addition, in connection with its normal year-end closing procedures, the
Company conducted a physical inventory count of its inventories as of
September 30, 1998. This physical inventory count indicated that any previous
inventory record discrepancies that had resulted from the system
implementation were no longer impacting the Company's reported inventory
balances as of September 30, 1998. Accordingly, the Company determined,
during the fourth quarter, that the system difficulties encountered in the
third quarter had been corrected and, therefore eliminated the related $1
million provision during the fourth quarter.
19. CONTINGENCIES
During fiscal 1997, the Company and certain of its previous officers were
named as defendants in a series of putative securities class action lawsuits
in the United States District Court for the District of Minnesota on behalf
of an alleged class of purchasers of its common stock during the period
January 25, 1996 through December 23, 1996, inclusive, which were
consolidated, through a Consolidated Amended Complaint filed in May 1997.
Also in 1997, a similar but separate action was filed by the Louisiana State
Employees Retirement System. The Consolidated Amended Complaint and the
Louisiana Amended Complaint allege the Company and certain of its previous
officers violated federal securities laws by, among other things,
misrepresenting and/or omitting material information concerning the Company's
operations and financial results. The Louisiana Amended Complaint also
alleges misrepresentations in violation of state common law.
In a decision issued on May 22, 1998, the District Court granted in part and
denied in part the motions of the Company and its three former officers to
dismiss the Consolidated Amended Complaint and the Louisiana Amended
Complaint. The Court dismissed without leave to replead all claims asserted
in both cases, except for certain federal securities law claims based upon
alleged misrepresentations and/or omissions relating to the accounting
treatment applied to the Company's AetherWorks investment. The Court also
limited the claims asserted in the Louisiana Amended Complaint to the 11,000
shares of the Company's stock held subsequent to November 14, 1996. These
claims remain pending against the Company and two of its former officers,
Ervin F. Kamm, Jr. and Gerald A. Wall. Discovery in the actions is
proceeding.
Because the lawsuits are in preliminary stages, the ultimate outcomes cannot
be determined at this time, and no potential assessment of the probable or
possible effects of such litigation, if any, on the Company's financial
position, liquidity or future operations can be made.
In the normal course of business, the Company is subject to various claims
and litigation. Management of the Company expects that these various
litigation items will not have a material adverse effect on the results of
operations or financial condition of the Company.
54
<PAGE>
REPORT OF MANAGEMENT
TO THE STOCKHOLDERS OF DIGI INTERNATIONAL INC.
The Company's management is responsible for the integrity, objectivity and
consistency of the financial information presented in this annual report. The
consolidated financial statements contained herein were prepared in accordance
with generally accepted accounting principles and were based on informed
judgments and management's best estimates as required. Financial information
elsewhere in this annual report is consistent with that contained in the
consolidated financial statements.
The Company maintains a system of internal controls designed to provide
reasonable assurance that assets are safeguarded, transactions are properly
executed in accordance with management's authorization, and accounting records
may be relied upon for the preparation of financial statements and other
financial information. The system is monitored by direct management review.
Limitations exist in any system of internal control, based upon the recognition
that the cost of the system should not exceed the benefits derived.
The Company's consolidated financial statements have been audited by
PricewaterhouseCoopers LLP, independent certified public accountants. Their
audit was conducted in accordance with generally accepted auditing standards. As
part of their audits of the Company's consolidated financial statements, these
independent accountants considered the Company's internal controls to the extent
they deemed necessary to determine the nature, timing and extent of their audit
tests.
The Audit Committee of the Board of Directors is composed entirely of
non-employee directors and is responsible for monitoring and overseeing the
quality of the Company's accounting and reporting policies, internal controls
and other matters deemed appropriate. The independent certified public
accountants have free access to the Audit Committee without management present.
/s/ John P. Schinas
John P. Schinas
Chairman and Interim Acting Chief Executive Officer
/s/ Subramanian Krishnan
Subramanian Krishnan
Chief Financial Officer
August 16, 1999
55
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE STOCKHOLDERS AND BOARD OF DIRECTORS OF DIGI INTERNATIONAL INC.
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, cash flows and stockholders' equity
present fairly, in all material respects, the financial position of Digi
International Inc. and subsidiaries (the Company) at September 30, 1998 and
1997, and the results of their operations and their cash flows for each of the
three years in the period ended September 30, 1998, in conformity with generally
accepted accounted principles. These financial statements are the responsibility
of the Company's management; our responsibility is to express an opinion on
these financial statements based on our audits. We conducted our audits of these
statements in accordance with generally accepted auditing standards which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
As discussed more fully in Note 2, the Company and the staff of the Securities
and Exchange Commission have had discussions regarding the accounting treatment
related to the July 1998 acquisitions of ITK International, Inc. and Central
Data Corporation. As a result of these discussions, the Company has changed the
method used to allocate the purchase price to in-process technologies. In
connection with this modification, the Company has adjusted the measurement and
allocations of the purchase prices recorded for the aforementioned acquisitions.
Accordingly, the consolidated financial statements as of and for the year ended
September 30, 1998 have been restated.
As discussed in Note 6, the Company has recorded its investment in AetherWorks
Corporation (AetherWorks) on the equity method; the 1997 and 1996 consolidated
statements of operations include AetherWorks' net operating losses for the years
ended September 30, 1997 and 1996 of $5,764,201 and $3,623,776, respectively. We
did not audit the financial statements of AetherWorks, which statements were
audited by other auditors whose report has been furnished to us, and our
opinion, insofar as it relates to the amounts included for AetherWorks' net
operating losses, is based solely on the report of other auditors.
PricewaterhouseCoopers LLP
Minneapolis, Minnesota
December 11, 1998, except as to Notes 2 and 3,
for which the date is July 23, 1999
56
<PAGE>
QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>
In thousands except per share amounts Quarter ended
Dec. 31 Mar. 31 June 30 Sept. 30 (1)
<S> <C> <C> <C> <C>
1998
Net sales $ 42,590 $ 45,059 $ 46,449 $ 48,833
Gross margin 21,369 23,066 24,559 (2) 25,399 (2)
Acquired in-process research and development 16,065
Restructuring 1,020
AetherWorks Corporation gain 1,350
Net income (loss) 3,842 4,665 6,411 14,989
Net income (loss) per share - basic 0.28 0.35 0.47 1.05
Net income (loss) per share - assuming dilution 0.27 0.33 0.45 1.05
1997
Net sales $ 42,236 $ 40,393 $ 40,843 $ 42,125
Gross margin 19,640 19,294 20,118 21,063
Restructuring 10,471
AetherWorks Corporation net loss (1,520) (1,590) (1,525) (1,130)
AetherWorks Corporation write-off (5,759)
Net (loss) income (2,578) (9,400) 67 (2,431)
Net (loss) income per share - basic (0.19) (0.70) 0.01 (0.29)
Net (loss) income per share - assuming dilution (0.19) (0.70) 0.01 (0.29)
1996
Net sales $ 43,716 $ 47,973 $ 49,643 $ 51,819
Gross margin 23,729 25,391 24,451 26,471
AetherWorks Corporation net loss (279) (656) (1,204) (1,485)
Net income (loss) 4,522 4,620 (51) 209
Net income per share - basic 0.34 0.35 0.00 0.02
Net income per share - assuming dilution 0.33 0.34 0.00 0.02
</TABLE>
The summation of quarterly net income per share may not equate to the year-end
calculation as quarterly calculations are performed on a discrete basis.
(1) See Notes 2 and 3 to the Company's consolidated financial statements
(2) See Note 18 to the Company's consolidated financial statements
57
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Consolidated Financial Statements and Schedules of the Company
and Report of Independent Auditors for AetherWorks Corporation
1. Incorporated by reference to pages 25 through 38 of the
Company's 1998 Annual Report to Stockholders:
Consolidated Statements of Operations for the fiscal years
ended September 30, 1998, 1997 and 1996
Consolidated Balance Sheets as of September 30, 1998 and
1997
Consolidated Statements of Cash Flows for the fiscal years
ended September 30, 1998, 1997 and 1996
Consolidated Statements of Stockholders' Equity for the
fiscal years ended September 30, 1998, 1997 and 1996
Notes to Consolidated Financial Statements
Report of Independent Accountants
2. All financial statement schedules are omitted because they
are not applicable or are not required.
3. Report of Ernst & Young LLP, Independent Auditors for
AetherWorks Corporation
(b) Reports on Form 8-K
Form 8-K dated July 23, 1998, regarding the Company's acquisition
of Central Data Corporation on July 8, 1998.
Form 8-K dated August 12, 1998, regarding the Company's
acquisition of ITK International, Inc. on July 29, 1998.
Form 8-K dated September 4, 1998, regarding the authorization of
the Company to purchase up to 1 million shares of its Common
Stock and the resignation of Jonathon E. Killmer, Senior Vice
President, Chief Financial Officer and Treasurer, effective
October 30, 1998.
58
<PAGE>
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(CONTINUED)
(b) Reports on Form 8-K (Continued)
Form 8-K dated September 11, 1998, regarding the write-off and
restructuring charge associated with the acquisition of Central
Data Corporation and ITK International, Inc. in the fourth
quarter of fiscal 1998.
Form 8-K/A dated August 16, 1998, regarding the Company's
acquisition of ITK International, Inc. on July 29, 1998.
(c) Exhibits
Exhibit
Number Description
------ -----------
2(a) Agreement and Plan of Merger dated as of July 1, 1998
among the Company, Iroquois Acquisition Inc. and ITK
International, Inc. (1)
2(b) Agreement and Plan of Merger dated as of July 1, 1998
among the Company, CD Acquisition Inc. and Central Data
Corporation (2)
3(a) Restated Certificate of Incorporation of the Company (3)
3(b) Amended and Restated By-Laws of the Company (4)
4(a) Form of Rights Agreement, dated as of June 10, 1998
between Digi International Inc. and Norwest Bank
Minnesota, National Association, as Rights Agent (5)
4(b) Amendment dated January 26, 1998, to Share Rights
Agreement, dated as of June 10, 1998 between Digi
International Inc. and Norwest Bank Minnesota, National
Association, as Rights Agent (6)
10(a) Stock Option Plan of the Company (7)
10(b) Form of indemnification agreement with directors and
officers of the Company (8)
10(c) Amended and Restated Employment Agreement between the
Company and John P. Schinas (9)
10(d) Restated and Amended Note Purchase Agreement between the
Company and AetherWorks Corporation, dated October 14,
1997 (10)
59
<PAGE>
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(CONTINUED)
(c) Exhibits (Continued)
Exhibit
Number Description
------ -----------
10(e) 401(k) Savings and Profit Sharing Plan of Digi
International Inc. (11)
10(f) Employment Arrangement between the Company and Jonathon
E. Killmer, dated September 16, 1996 (12)
10(g) Employment Agreement between the Company and Jerry A.
Dusa, dated March 12, 1997 (13)
10(h) Employment Arrangement between the Company and Douglas
Glader (14)
10(h) (i) Amendment to Employment Agreement between the Company
and Douglas Glader (15)
10(i) Employment Agreement between the Company and Dino G.
Kasdagly, dated October 1, 1997 (16)
10(j) Employee Stock Purchase Plan of the Company (17)
13 1998 Annual Report to Stockholders (only those portions
specifically incorporated by reference herein shall be
deemed filed with the Securities and Exchange
Commission) (18)
21 Subsidiaries of the Company (19)
23.1 Consent of Independent Accountants
23.2 Consent of Independent Accountants
24 Powers of Attorney
27 Financial Data Schedule
(1) Incorporated by reference to Exhibit 2 to the Company's Form 8-K filed
August 12, 1998 (File no. 0-17972).
(2) Incorporated by reference to Exhibit 2 to the Company's Form 8-K filed
July 23, 1998 (File no. 0-17972).
(3) Incorporated by reference to Exhibit 3(a) to the Company's Form 10-K for
the year ended September 30, 1993 (File no. 0-17972).
60
<PAGE>
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(CONTINUED)
(4) Incorporated by reference to Exhibit 3(b) to the Company's Registration
Statement on Form S-1 (File no. 33-42384).
(5) Incorporated by reference of Exhibit 1 to the company's Registration
Statement on Form 8-A dated June 24, 1998 (File No. 0-17972)
(6) Incorporated by reference to Exhibit 1 to Amendment No. 1 to the
Company's Registration Statement on Form 8-A dated February 5, 1999
(File No. 0-17972)
(7) Incorporated by reference to the corresponding exhibit number to the
Company's Form 10-K for the year ended September 30, 1998 (File no.
0-17972)
(8) Incorporated by reference to Exhibit 10(b) to the Company's Registration
Statement on Form S-1 (File no. 33-30725).
(9) Incorporated by reference to Exhibit 10(c) to the Company's Form 10-K for
the year ended September 30, 1994 (File no. 0-17972).
(10) Incorporated by reference to Exhibit 10(d) to the Company's Form 10-K for
the year ended September 30, 1997 (File no. 0-17972).
(11) Incorporated by reference to Exhibit 10(f) to Company's Form 10-K for the
year ended September 30, 1991 (File no. 0-17972).
(12) Incorporated by reference to Exhibit 10(k) to the Company's Form 10-K/A
for the year ended September 30, 1996 (File no. 0-17972).
(13) Incorporated by reference to Exhibit 10(m) to the Company's Form 10-Q for
the quarter ended March 31, 1997 (File no. 0-17972).
(14) Incorporated by reference to Exhibit 10(q) to the Company's Form 10-K for
the year ended September 30, 1995 (File no. 0-17972).
(15) Incorporated by reference to Exhibit 10(p) to the Company's Form 10-Q for
the quarter ended December 31, 1996 (File no. 0-17972).
(16) Incorporated by reference to Exhibit 10(r) to the Company's Form 10-K for
the year ended September 30, 1997 (File no. 0-17972).
(17) Incorporated by reference to Exhibit B to the Company's Proxy Statement
for its Annual Meeting of Stockholders held on January 31, 1996.
(18) Incorporated by reference to the corresponding exhibit number to the
Company's Form 10-K for the year ended September 30, 1998 (File no.
0-17972)
(19) Incorporated by reference to Exhibit 21 to the Company's Form 10-K for
the year ended September 30, 1998 (File no. 0-17972).
61
<PAGE>
REPORT OF INDEPENDENT AUDITORS
BOARD OF DIRECTORS AND SHAREHOLDERS
AETHERWORKS CORPORATION
We have audited the balance sheets of AetherWorks Corporation (a development
stage company) as of September 30, 1997 and 1996, and the related statements
of operations, shareholders' equity (deficit) and cash flows for the years
then ended and the period from February 24, 1993 (inception) to September 30,
1997. These financial statements, not separately presented herein, are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of AetherWorks Corporation (a
development stage company) at September 30, 1997 and 1996, and the results of
its operations and its cash flows for the years then ended and the period
from February 24, 1993 (inception) to September 30, 1997, in conformity with
generally accepted accounting principles.
The financial statements referred to above have been prepared assuming the
Company will continue as a going concern. As discussed in Note 11 to the
financial statements, the Company's deficit accumulated during the
development stage raises substantial doubt about its ability to continue as a
going concern. The Company intends to obtain additional financing to permit
it to continue its operations. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
/s/ Ernst & Young LLP
Minneapolis, MN
October 28, 1997
62
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
DIGI INTERNATIONAL INC.
August 16, 1999 By: /s/ John P. Schinas
--------------------
John P. Schinas
Chairman & Interim Acting Chief Executive
Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
August 16, 1999 /s/ John P. Schinas
--------------------
John P. Schinas
Chairman & Interim Acting Chief Executive
Officer (Principal Executive Officer)
August 16, 1999 /s/ Subramanian Krishnan
Subramanian Krishnan
Sr. Vice President & Chief Financial Officer
(Principal Financial and
Accounting Officer)
JOHN P. SCHINAS
WILLIS K. DRAKE
RICHARD E. EICHHORN
MYKOLA MOROZ A majority of the Board of Directors*
DAVID STANLEY
ROBERT S. MOE
John P. Schinas, by signing his name hereto, does hereby sign this document
on behalf of himself and each of the other above named directors of the
Registrant pursuant to Powers of Attorney duly executed by such persons.
/s/ John P. Schinas
John P. Schinas,
Attorney-in-fact
63
<PAGE>
PART IV
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit Description Page
- ------- ----------- ----
<S> <C> <C>
2(a) Agreement and Plan of Merger dated as of July 1, Incorporated by
1998 among the Registrant, Iroquois Acquisition Reference
Inc. and ITK International, Inc.
2(b) Agreement and Plan of Merger dated as of July 1, Incorporated by
1998 among the Registrant, CD Acquisition Inc. Reference
and Central Data Corporation
3(a) Restated Certificate of Incorporation of the Incorporated by
Registrant, as amended Reference
3(b) Amended and Restated By-Laws of the Registrant Incorporated by
Reference
4(a) Form of Rights Agreement, dated as of June 10, 1998 Incorporated by
between Digi International Inc. and Norwest Bank Reference
Minnesota, National Association, as Rights Agent
4(b) Amendment dated January 26, 1998, to Share Rights Incorporated by
Agreement,dated as of June 10, 1998 between Digi Reference
International Inc. and Norwest Bank Minnesota,
National Association, as Rights Agent
10(a) Stock Option Plan of the Registrant Incorporated by
Reference
10(b) Form of indemnification agreement with directors Incorporated by
and officers of the Registrant Reference
10(c) Amended and Restated Employment Agreement between Incorporated by
the Registrant and John P. Schinas Reference
10(d) Restated and Amended Note Purchase Agreement Incorporated by
between the Registrant and Aether Works Reference
Corporation, dated October 14, 1997
10(e) 401(k) Savings and Profit Sharing Plan of Digi Incorporated by
International Inc. Reference
10(f) Employment Arrangement between the Registrant and Incorporated by
Jonathon E. Killmer, dated September 16, 1996 Reference
10(g) Employment Agreement between the Registrant and Incorporated by
Jerry A. Dusa, dated March 12, 1997 Reference
10(h) Employment Arrangement between the Registrant and Incorporated by
Douglas Glader Reference
10(h) (i) Amendment to Employment Agreement between the Incorporated by
Registrant and Douglas Glader Reference
10(i) Employment Agreement between the Registrant and Incorporated by
Dino G. Kasdagly, dated October 1, 1997 Reference
10(j) Employee Stock Purchase Plan of the Registrant Incorporated by
Reference
13 1998 Annual Report to Stockholders Incorporated by
Reference
21 Subsidiaries of the Company Incorporated by
Reference
</TABLE>
64
<PAGE>
EXHIBIT INDEX (CONTINUED)
<TABLE>
<CAPTION>
Exhibit Description Page
- ------- ----------- ----
<S> <C> <C>
23.1 Consent of Independent Accountants Filed
Electronically
23.2 Consent of Independent Accountants Filed
Electronically
24 Powers of Attorney Filed
Electronically
27 Financial Data Schedule Filed
Electronically
</TABLE>
65
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
<PAGE>
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the Form S-8 registration
statements of Digi International Inc. for its Stock Option Plan (File No.
33-32956, File No. 33-38898, File No. 333-99 and File No. 333-23857); for its
Employee Stock Purchase Plan (File No. 333-1821); and for its Non-Officer Stock
Option Plan (File No. 33-57869) of our report dated December 11, 1998 , except
as to Notes 2 and 3, for which the date is July 23, 1999, on our audits of the
consolidated financial statements of Digi International Inc. as of September 30,
1998 and 1997, and for the years ended September 30, 1998, 1997 and 1996, which
report is included in or incorporated by reference in this Annual Report on Form
10-K/A.
/s/ PricewaterhouseCoopers LLP
Minneapolis, Minnesota
August 16, 1999
<PAGE>
EXHIBIT 23.2
CONSENT OF INDEPENDENT ACCOUNTANTS
<PAGE>
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Form S-8 Registration
Statements (File No. 33-32956, File No. 33-38898, File No. 333-99 and File No.
333-23857) of Digi International Inc. for its Stock Option Plan; Form S-8
Registration Statement (File No. 333-1821) of Digi International Inc. for its
Employee Stock Purchase Plan; and Form S-8 Registration Statement (File No.
33-57869) of Digi International Inc. for its Non-Officer Stock Option Plan of
our report dated October 28, 1997, with respect to the financial statements of
AetherWorks Corporation for the years ended September 30, 1997 and 1996, and the
period from February 24, 1993 (inception) to September 30, 1997 included in the
Annual Report (Form 10-K/A) of Digi International Inc. for the fiscal year ended
September 30, 1998, filed with the Securities and Exchange Commission. .
/s/ Ernst & Young LLP
Minneapolis, Minnesota
August 11, 1999
<PAGE>
EXHIBIT 24
POWERS OF ATTORNEY
<PAGE>
DIGI INTERNATIONAL INC.
Power of Attorney
of Director and/or Officer
The undersigned director and/or officer of Digi International Inc., a
Delaware corporation, does hereby make, constitute and appoint John P. Schinas,
Douglas J. Glader and Subramanian Krishnan, and each of them, the undersigned's
true and lawful attorneys-in-fact, with power of substitution, for the
undersigned and in the undersigned's name, place and stead, to sign and affix
the undersigned's name as such director and/or officer of said Corporation to an
amendment on Form 10-K/A to said Corporation's Annual Report on Form 10-K for
the fiscal year ended September 30, 1998, and all further amendments thereto, to
be filed by said Corporation with the Securities and Exchange Commission,
Washington, D.C. under the Securities Exchange Act of 1934, as amended, and to
file the same, with all exhibits thereto and other supporting documents, with
said Commission, granting unto said attorneys-in-fact, and each of them, full
power and authority to do and perform any and all acts necessary or incidental
to the performance and execution of the powers herein expressly granted.
IN WITNESS WHEREOF, the undersigned has hereunto set the undersigned's
hand this 4th day of August, 1999.
/s/ ROBERT S. MOE
- ---------------------------------------
Robert S. Moe
<PAGE>
DIGI INTERNATIONAL INC.
Power of Attorney
of Director and/or Officer
The undersigned director and/or officer of Digi International Inc., a
Delaware corporation, does hereby make, constitute and appoint John P. Schinas,
Douglas J. Glader and Subramanian Krishnan, and each of them, the undersigned's
true and lawful attorneys-in-fact, with power of substitution, for the
undersigned and in the undersigned's name, place and stead, to sign and affix
the undersigned's name as such director and/or officer of said Corporation to an
amendment on Form 10-K/A to said Corporation's Annual Report on Form 10-K for
the fiscal year ended September 30, 1998, and all further amendments thereto, to
be filed by said Corporation with the Securities and Exchange Commission,
Washington, D.C. under the Securities Exchange Act of 1934, as amended, and to
file the same, with all exhibits thereto and other supporting documents, with
said Commission, granting unto said attorneys-in-fact, and each of them, full
power and authority to do and perform any and all acts necessary or incidental
to the performance and execution of the powers herein expressly granted.
IN WITNESS WHEREOF, the undersigned has hereunto set the undersigned's
hand this 4th day of August, 1999.
/s/ SUBRAMANIAN KRISHNAN
- ---------------------------------------
Subramanian Krishnan
<PAGE>
DIGI INTERNATIONAL INC.
Power of Attorney
of Director and/or Officer
The undersigned director and/or officer of Digi International Inc., a
Delaware corporation, does hereby make, constitute and appoint John P. Schinas,
Douglas J. Glader and Subramanian Krishnan, and each of them, the undersigned's
true and lawful attorneys-in-fact, with power of substitution, for the
undersigned and in the undersigned's name, place and stead, to sign and affix
the undersigned's name as such director and/or officer of said Corporation to an
amendment on Form 10-K/A to said Corporation's Annual Report on Form 10-K for
the fiscal year ended September 30, 1998, and all further amendments thereto, to
be filed by said Corporation with the Securities and Exchange Commission,
Washington, D.C. under the Securities Exchange Act of 1934, as amended, and to
file the same, with all exhibits thereto and other supporting documents, with
said Commission, granting unto said attorneys-in-fact, and each of them, full
power and authority to do and perform any and all acts necessary or incidental
to the performance and execution of the powers herein expressly granted.
IN WITNESS WHEREOF, the undersigned has hereunto set the undersigned's
hand this 6th day of August, 1999.
/s/ WILLIS K. DRAKE
- ---------------------------------------
Willis K. Drake
<PAGE>
DIGI INTERNATIONAL INC.
Power of Attorney
of Director and/or Officer
The undersigned director and/or officer of Digi International Inc., a
Delaware corporation, does hereby make, constitute and appoint John P. Schinas,
Douglas J. Glader and Subramanian Krishnan, and each of them, the undersigned's
true and lawful attorneys-in-fact, with power of substitution, for the
undersigned and in the undersigned's name, place and stead, to sign and affix
the undersigned's name as such director and/or officer of said Corporation to an
amendment on Form 10-K/A to said Corporation's Annual Report on Form 10-K for
the fiscal year ended September 30, 1998, and all further amendments thereto, to
be filed by said Corporation with the Securities and Exchange Commission,
Washington, D.C. under the Securities Exchange Act of 1934, as amended, and to
file the same, with all exhibits thereto and other supporting documents, with
said Commission, granting unto said attorneys-in-fact, and each of them, full
power and authority to do and perform any and all acts necessary or incidental
to the performance and execution of the powers herein expressly granted.
IN WITNESS WHEREOF, the undersigned has hereunto set the undersigned's
hand this 4th day of August, 1999.
/s/ RICHARD E. EICHHORN
- ---------------------------------------
Richard E. Eichhorn
<PAGE>
DIGI INTERNATIONAL INC.
Power of Attorney
of Director and/or Officer
The undersigned director and/or officer of Digi International Inc., a
Delaware corporation, does hereby make, constitute and appoint John P. Schinas,
Douglas J. Glader and Subramanian Krishnan, and each of them, the undersigned's
true and lawful attorneys-in-fact, with power of substitution, for the
undersigned and in the undersigned's name, place and stead, to sign and affix
the undersigned's name as such director and/or officer of said Corporation to an
amendment on Form 10-K/A to said Corporation's Annual Report on Form 10-K for
the fiscal year ended September 30, 1998, and all further amendments thereto, to
be filed by said Corporation with the Securities and Exchange Commission,
Washington, D.C. under the Securities Exchange Act of 1934, as amended, and to
file the same, with all exhibits thereto and other supporting documents, with
said Commission, granting unto said attorneys-in-fact, and each of them, full
power and authority to do and perform any and all acts necessary or incidental
to the performance and execution of the powers herein expressly granted.
IN WITNESS WHEREOF, the undersigned has hereunto set the undersigned's
hand this 4th day of August, 1999.
/s/ MYKOLA MOROZ
- ---------------------------------------
Mykola Moroz
<PAGE>
DIGI INTERNATIONAL INC.
Power of Attorney
of Director and/or Officer
The undersigned director and/or officer of Digi International Inc., a
Delaware corporation, does hereby make, constitute and appoint John P. Schinas,
Douglas J. Glader and Subramanian Krishnan, and each of them, the undersigned's
true and lawful attorneys-in-fact, with power of substitution, for the
undersigned and in the undersigned's name, place and stead, to sign and affix
the undersigned's name as such director and/or officer of said Corporation to an
amendment on Form 10-K/A to said Corporation's Annual Report on Form 10-K for
the fiscal year ended September 30, 1998, and all further amendments thereto, to
be filed by said Corporation with the Securities and Exchange Commission,
Washington, D.C. under the Securities Exchange Act of 1934, as amended, and to
file the same, with all exhibits thereto and other supporting documents, with
said Commission, granting unto said attorneys-in-fact, and each of them, full
power and authority to do and perform any and all acts necessary or incidental
to the performance and execution of the powers herein expressly granted.
IN WITNESS WHEREOF, the undersigned has hereunto set the undersigned's
hand this 4th day of August, 1999.
/s/ DAVID STANLEY
- ---------------------------------------
David Stanley
<PAGE>
DIGI INTERNATIONAL INC.
Power of Attorney
of Director and/or Officer
The undersigned director and/or officer of Digi International Inc., a
Delaware corporation, does hereby make, constitute and appoint John P. Schinas,
Douglas J. Glader and Subramanian Krishnan, and each of them, the undersigned's
true and lawful attorneys-in-fact, with power of substitution, for the
undersigned and in the undersigned's name, place and stead, to sign and affix
the undersigned's name as such director and/or officer of said Corporation to an
amendment on Form 10-K/A to said Corporation's Annual Report on Form 10-K for
the fiscal year ended September 30, 1998, and all further amendments thereto, to
be filed by said Corporation with the Securities and Exchange Commission,
Washington, D.C. under the Securities Exchange Act of 1934, as amended, and to
file the same, with all exhibits thereto and other supporting documents, with
said Commission, granting unto said attorneys-in-fact, and each of them, full
power and authority to do and perform any and all acts necessary or incidental
to the performance and execution of the powers herein expressly granted.
IN WITNESS WHEREOF, the undersigned has hereunto set the undersigned's
hand this 4th day of August, 1999.
/s/ JOHN P. SCHINAS
- ---------------------------------------
John P. Schinas
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<RESTATED>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> SEP-30-1998
<CASH> 10,355,368
<SECURITIES> 0
<RECEIVABLES> 48,549,145
<ALLOWANCES> 0
<INVENTORY> 27,365,924
<CURRENT-ASSETS> 92,410,378
<PP&E> 33,990,923
<DEPRECIATION> 0
<TOTAL-ASSETS> 192,982,619
<CURRENT-LIABILITIES> 54,514,657
<BONDS> 0
0
0
<COMMON> 157,910
<OTHER-SE> 121,092,673
<TOTAL-LIABILITY-AND-EQUITY> 192,982,619
<SALES> 0
<TOTAL-REVENUES> 182,931,670
<CGS> 88,539,156
<TOTAL-COSTS> 88,347,874
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 9,212,926
<INCOME-TAX> 9,284,020
<INCOME-CONTINUING> (71,096)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (71,096)
<EPS-BASIC> (0.01)
<EPS-DILUTED> (0.01)
</TABLE>
