UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 0-18805
ELECTRONICS FOR IMAGING, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 94-3086355
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
303 VELOCITY WAY, FOSTER CITY, CA 94404
(Address of principal executive offices, including zip code)
(650) 357 - 3500
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes [x] No [ ]
The number of shares of Common Stock outstanding as of October 20, 1999 was
55,476,033.
<PAGE>
<TABLE>
ELECTRONICS FOR IMAGING, INC.
INDEX
<CAPTION>
Page No.
PART I - Financial Information
<S> <C> <C>
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Statements of Income
Three Months Ended September 30, 1999 and 1998, and
Nine Months Ended September 30, 1999 and 1998.....................................3
Condensed Consolidated Balance Sheets
September 30, 1999 and December 31, 1998 .........................................4
Condensed Consolidated Statements of Cash Flows
Nine Months Ended September 30, 1999 and 1998 ....................................5
Notes to Condensed Consolidated Financial Statements ..................................6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ......................................................10
Item 3. Quantitative and Qualitative Disclosures About Market Risk.............................. 31
PART II - Other Information
Item 1. Legal Proceedings ........................................................................32
Item 2. Changes in Securities and Use of Proceeds ................................................32
Item 3. Defaults Upon Senior Securities ..........................................................32
Item 4. Submission of Matters to a Vote of Security Holders.......................................32
Item 5. Other Information ........................................................................33
Item 6. Exhibits and Reports on Form 8-K .........................................................33
Signatures .................................................................................................34
</TABLE>
2
<PAGE>
<TABLE>
PART I FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
ELECTRONICS FOR IMAGING, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenue $158,211 $129,804 $423,101 $316,215
Cost of revenue 79,236 73,191 216,211 177,072
-------- -------- -------- --------
78,975 56,613 206,890 139,143
-------- -------- -------- --------
Operating expenses:
Research and development 19,360 15,502 54,541 44,720
Sales and marketing 14,843 14,923 44,278 45,808
General and administrative 4,607 4,422 13,568 12,319
Merger related expenses 1,422 -- 1,422 --
-------- -------- -------- --------
40,232 34,847 113,809 102,847
-------- -------- -------- --------
Income from operations 38,743 21,766 93,081 36,296
Other income, net 4,160 2,474 11,631 6,368
-------- -------- -------- --------
Income before income taxes 42,903 24,240 104,712 42,664
Provision for income taxes 13,545 7,101 34,544 13,674
-------- -------- -------- --------
Net income $ 29,358 $ 17,139 $ 70,168 $ 28,990
======== ======== ======== ========
Net income per basic common share $ 0.53 $ 0.32 $ 1.28 $ 0.55
======== ======== ======== ========
Shares used in per share calculation (basic) 55,314 53,124 54,754 53,085
======== ======== ======== ========
Net income per diluted common share $ 0.51 $ 0.31 $ 1.23 $ 0.53
======== ======== ======== ========
Shares used in per share calculation (diluted) 57,709 54,422 56,906 54,459
======== ======== ======== ========
<FN>
See accompanying notes to condensed consolidated financial statements.
</FN>
</TABLE>
3
<PAGE>
ELECTRONICS FOR IMAGING, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
(Unaudited)
September December
30, 1999 31, 1998
-------- --------
ASSETS
Current assets:
Cash and cash equivalents $ 98,779 $ 58,909
Short-term investments 334,617 269,823
Accounts receivable, net 86,803 59,660
Inventories 8,649 16,485
Other current assets 17,619 21,853
-------- --------
Total current assets 546,467 426,730
Property and equipment, net 51,512 47,632
Other assets 9,434 9,829
-------- --------
Total assets $607,413 $484,191
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 39,952 $ 32,849
Accrued and other liabilities 33,331 29,009
Income taxes payable 8,578 9,511
-------- --------
Total current liabilities 81,861 71,369
-------- --------
Long-term obligations, less current portion 3,625 4,142
-------- --------
Stockholders' equity:
Preferred Stock, $.01 par value, 5,000,000 shares
authorized; none issued and outstanding -- --
Common Stock, $.01 par value, 150,000,000 shares
authorized; 55,522,813 and 53,984,484 shares
issued and outstanding, respectively 555 540
Additional paid-in capital 196,764 153,700
Retained earnings 324,608 254,440
-------- --------
Total stockholders' equity 521,927 408,680
-------- --------
Total liabilities and stockholders' equity $607,413 $484,191
======== ========
See accompanying notes to condensed consolidated financial statements.
4
<PAGE>
ELECTRONICS FOR IMAGING, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(unaudited)
Nine Months Ended
September 30,
-------------
1999 1998
-------- --------
Cash flows from operating activities:
Net income $ 70,168 $ 28,990
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 10,073 10,503
Deferred Taxes (893) 35
Change in reserve for bad debts (40) 239
Other 43 (148)
Changes in operating assets and liabilities:
Accounts receivable (27,103) (40,286)
Inventories 7,836 7,127
Receivables from subcontract manufacturers (72) (7,808)
Other current assets 4,652 (38)
Accounts payable and accrued liabilities 10,277 24,358
Income taxes payable 19,037 8,376
-------- --------
Net cash provided by operating activities 93,978 46,964
-------- --------
Cash flows from investing activities:
Net purchases of short-term investments (64,794) (29,187)
Investment in property and equipment, net (13,196) (9,130)
Purchase of other assets 185 50
-------- --------
Net cash used for investing activities (77,805) (38,267)
-------- --------
Cash flows from financing activities:
Repayment of long-term obligations (531) (71)
Issuance of common stock 24,228 731
-------- --------
Net cash provided by financing activities 23,697 660
-------- --------
Increase in cash and cash equivalents 39,870 9,357
Cash and cash equivalents at beginning of period 58,909 61,228
-------- --------
Cash and cash equivalents at end of period $ 98,779 $ 70,585
======== ========
See accompanying notes to condensed consolidated financial statements.
5
<PAGE>
ELECTRONICS FOR IMAGING, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
(unaudited)
1. Basis of presentation
The unaudited interim condensed consolidated financial statements of
Electronics for Imaging, Inc., a Delaware corporation (the "Company"),
as of and for the interim periods ended September 30, 1999, have been
prepared on the same basis as the audited consolidated financial
statements as of and for the year ended December 31, 1998, contained in
the Company's Annual Report to Stockholders, except for the fact that
the unaudited interim condensed consolidated financial statements, for
all periods presented in this Form 10-Q, include the financial results
of the company formerly known as Management Graphics Inc. that merged
with Electronics for Imaging, Inc. on August 31, 1999 in a pooling of
interests transaction. In the opinion of management, the unaudited
interim condensed consolidated financial statements of Electronics for
Imaging, Inc., include all adjustments (consisting only of normal
recurring adjustments) necessary to present fairly the financial
position of the Company and the results of its operations and cash
flows, in accordance with generally accepted accounting principles. The
interim condensed consolidated financial statements should be read in
conjunction with the audited consolidated financial statements referred
to above and notes thereto.
The preparation of the interim condensed consolidated financial
statements in conformity with generally accepted accounting principles
for such financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities
and disclosure of contingent assets and liabilities as of the date of
the interim condensed consolidated financial statements and the
reported amounts of revenue and expenses during the reporting period.
Actual results could differ from these estimates.
The interim results of the Company are subject to fluctuation. As a
result, the Company believes the results of operations for the interim
periods ended September 30, 1999 are not necessarily indicative of the
results to be expected for any other interim period or the full year.
2. Comprehensive income
Effective January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130 (SFAS 130) "Reporting Comprehensive
Income". This statement requires that all items recognized under
accounting standards as components of comprehensive earnings be
reported in an annual financial statement that is displayed with the
same prominence as other annual financial statements. This statement
also requires that an entity classify items of other comprehensive
earnings by their nature in an annual financial statement. There was no
material difference between comprehensive income and net income for the
periods ending September 30, 1999 and 1998.
6
<PAGE>
3. Accounting for derivative instruments and hedging
In June 1998, the Financial Accounting Standards Board (the "FASB")
issued Statement of Financial Accounting Standards No. 133 (SFAS 133)
"Accounting for Derivative Instruments and Hedging". This statement
establishes accounting and reporting standards for derivative
instruments and for hedging activities and requires, among other
things, that all derivatives be recognized as either assets or
liabilities in the statement of financial position and measure those
instruments at fair value. In June 1999, the FASB issued Statement of
Financial Accounting Standards No. 137 (SFAS 137), "Accounting for
Derivative Instruments and Hedging Activities - Deferral of Effective
Date of FASB Statement No. 133". SFAS 133, as amended by SFAS 137, is
effective for fiscal quarters and fiscal years beginning after June 15,
2000. The Company is currently studying the provisions of the SFAS 133
and the potential impact it may have on its financial statements.
<TABLE>
4. Earnings per share
The following table represents unaudited disclosures of basic and
diluted earnings per share for the periods presented below:
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
1999 1998 1999 1998
------- ------- ------- -------
<S> <C> <C> <C> <C>
(in thousands, except per share amounts)
Net income available to
common shareholders $29,358 $17,139 $70,168 $28,990
Shares
Basic shares 55,314 53,124 54,754 53,085
Effect of Dilutive Securities 2,395 1,298 2,152 1,374
------- ------- ------- -------
Diluted shares 57,709 54,422 56,906 54,459
======= ======= ======= =======
Earnings per common share
Basic EPS $ 0.53 $ 0.32 $ 1.28 $ 0.55
Diluted EPS $ 0.51 $ 0.31 $ 1.23 $ 0.53
</TABLE>
7
<PAGE>
<TABLE>
5. Balance Sheet Components (in thousands)
<CAPTION>
September 30, December 31,
1999 1998
-------- --------
Accounts receivable:
<S> <C> <C>
Accounts receivable $ 88,460 $ 61,357
Less reserves and allowances (1,657) (1,697)
-------- --------
$ 86,803 $ 59,660
======== ========
Inventories:
Raw materials $ 6,350 $ 15,289
Work-in-process 534 250
Finished goods 1,765 946
-------- --------
$ 8,649 $ 16,485
======== ========
Other current assets:
Receivable from subcontract manufacturers $ 4,407 $ 4,335
Other 13,212 17,518
-------- --------
$ 17,619 $ 21,853
======== ========
Property and equipment:
Land $ 27,923 $ 27,706
Equipment and purchased software 57,400 49,574
Furniture and leasehold improvements 13,272 7,753
-------- --------
98,345 85,033
Less accumulated depreciation and amortization (46,833) (37,401)
-------- --------
$ 51,512 $ 47,632
======== ========
Accrued and other liabilities:
Accrued product-related obligations $ 6,732 $ 4,650
Accrued royalty payments 9,087 8,662
Accrued compensation and benefits 5,926 6,779
Other accrued liabilities 11,586 8,918
-------- --------
$ 33,331 $ 29,009
======== ========
</TABLE>
8
<PAGE>
6. Business Combination
On August 31, 1999 the Company acquired Management Graphics,
Inc ("MGI"), a Minnesota-based corporation that develops digital print
on demand products and other digital imaging products.
The acquisition was accounted for as a tax free, pooling of
interests combination and, accordingly, the consolidated financial
statements have been restated to include the historical results of MGI
for all periods presented prior to the acquisition.
In connection with the acquisition, the Company issued a total
of approximately 490,325 shares of its common stock to the existing
shareholders of MGI as consideration for all shares of capital stock of
MGI. In addition, holders of MGI options outstanding at the time of the
acquisition will receive, upon exercise of such options, in the
aggregate up to approximately 34,170 shares of the Company's common
stock. The combination was approved by a majority of shareholders from
MGI.
During the three month period September 30, 1999 the Company
incurred approximately $1.4 million of non-recurring expenses related
to the merger. These costs are included in operating expenses and
consisted primarily of professional fees, severance costs, and travel
expenses. Severance costs related to 33 former employees of MGI and the
related positions were eliminated due to duplication of resources
between California and Minnesota locations. Functionally, the Company
eliminated 6 manufacturing, 15 service, 1 engineering, 6 sales and
marketing, and 5 administrative positions. The terminations have been
completed.
7. Legal Proceedings
The Company and certain principal officers and directors were named as
defendants in putative class action complaints filed in both the
California Superior Court of the County of San Mateo on December 16,
1997, and the United States District Court for the Northern District of
California on January 2, 1998 on behalf of purchasers of the common
stock of the Company during the class period from April 10, 1997,
through December 11, 1997. The complaints allege violations of
securities laws during the class period. Management believes the
lawsuits are without merit and that the outcome will not have a
material adverse effect on the financial position or overall trends in
the results of operations of the Company. However, due to the inherent
uncertainties of litigation, the Company cannot accurately predict the
ultimate outcome of the litigation. Any unfavorable outcome of the
litigation could have an adverse impact on the Company's financial
condition and results of operations.
9
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with
Management's Discussion and Analysis of Financial Conditions and Results of
Operations and the audited consolidated financial statements of Electronics for
Imaging, Inc., a Delaware corporation (the "Company"), and related notes thereto
contained in the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1998. Results for the three and nine month periods ended September
30, 1999 are not necessarily indicative of the results expected for the entire
fiscal year ended December 31, 1999. All assumptions, anticipations,
expectations and forecasts contained herein are forward-looking statements that
involve risks and uncertainties. The Company's actual results could differ
materially from those discussed here. For a more complete discussion of factors
which might impact the Company's results, please see the section entitled
"Factors that Could Adversely Affect Performance" below and in the Company's
1998 Annual Report on Form 10-K, as filed with the Securities and Exchange
Commission.
RESULTS OF OPERATIONS FOR THE THREE AND NINE MONTH PERIODS ENDED
SEPTEMBER 30, 1999 AND SEPTEMBER 30, 1998
Revenue
Revenue increased 22% to $158.2 million in the three month period ended
September 30, 1999 compared to $129.8 million in the three month period ended
September 30, 1998, whereas the corresponding unit volume increased by 69%.
Revenue increased 34% to $423.1 million in the nine month period ended September
30, 1999 compared to $316.2 million in the nine month period ended September 30,
1998, whereas the corresponding unit volume increased by 110%. The increase in
revenue was primarily due to significant increases in unit volumes shipped as a
result of positive market acceptance of new product introductions and the impact
of new customers, and was partially offset by price reductions on older product
lines.
The Company's revenue is principally derived from three major categories. The
first category is made up of stand-alone servers that connect digital color
copiers with computer networks. This category includes the Fiery XJ+, X2 and ZX
products and accounted for a majority of the Company's revenue prior to 1998.
The second category is made up of embedded / desktop controllers, bundled color
solutions and chipset solutions primarily for the office market. The third
category is made up of controllers for digital black and white products.
10
<PAGE>
<TABLE>
The following is a break-down of categories by revenue, both in terms of
absolute dollars and as a percentage (%) of total. Also shown is volume as a
percentage (%) of total units shipped.
<CAPTION>
Three Months Three Months
Ended Ended Increase /
Revenue September 30, 1999 September 30, 1998 (Decrease)
(in thousands) Revenue Revenue %
------- ------- -----
<S> <C> <C> <C> <C> <C>
Stand-alone Servers Connecting
to Digital Color Copiers $ 60,184 38% $ 87,169 67% (33)%
Embedded / Desktop Controllers,
Bundled Color Solutions
& Chipset Solutions 43,940 28% 26,422 21% 66%
Controllers for Digital
Black and White Solutions 41,907 26% 4,319 3% 870%
Spares, Licensing
& Other misc. sources 12,180 8% 11,894 9% 2%
-------- -------- -------- -------- --------
Total Revenue $158,211 100% $129,804 100% 22%
======== ======== ======== ======== ========
</TABLE>
Three Months Three Months
Ended Ended
Volume September 30, 1999 September 30, 1998
Volume Volume
------ ------
Stand-alone Servers Connecting
to Digital Color Copiers 12% 29%
Embedded / Desktop Controllers,
Bundled Color Solutions
& Chipset Solutions 43% 60%
Controllers for Digital
Black and White Solutions 45% 11%
Spares, Licensing
& Other misc. sources -- --
-- --
Total Revenue 100% 100%
==== ====
11
<PAGE>
<TABLE>
<CAPTION>
Nine Months Nine Months
Ended Ended Increase /
Revenue September 30, 1999 September 30, 1998 (Decrease)
(in thousands) Revenue Revenue %
------- ------- -------
<S> <C> <C> <C> <C> <C>
Stand-alone Servers Connecting
to Digital Color Copiers $180,511 43% $216,124 68% (16)%
Embedded / Desktop Controllers,
Bundled Color Solutions
& Chipset Solutions 112,517 27% 55,048 18% 104%
Controllers for Digital
Black and White Solutions 93,877 22% 13,157 4% 614%
Spares, Licensing
& Other misc. sources 36,196 8% 31,886 10% 14%
-------- -- -------- --- ----
Total Revenue $423,101 100% $316,215 100% 34%
======== === ======== === ====
</TABLE>
Nine Months Nine Months
Ended Ended
Volume September 30, 1999 September 30, 1998
Volume Volume
------ ------
Stand-alone Servers Connecting
to Digital Color Copiers 13% 34%
Embedded / Desktop Controllers,
Bundled Color Solutions
& Chipset Solutions 48% 53%
Controllers for Digital
Black and White Solutions 39% 13%
Spares, Licensing
& Other misc. sources -- --
--- ---
Total Revenue 100% 100%
=== ===
Growth in revenue in the three and nine month periods ended September 30, 1999
primarily took place in the two newer categories: controllers for digital black
and white solutions and embedded / desktop controllers, bundled color solutions
and chipset solutions. The Company's traditional business of stand-alone servers
connecting to digital color copiers decreased further when compared to the same
quarter of the prior year, which is consistent with a trend since early 1998 of
the market moving away from servers to desktop / embedded products.
12
<PAGE>
Overall revenues for color products, combining stand-alone color servers and the
desktop / embedded / bundled segments, has decreased by 8% for the three month
period, but increased 8% for the nine month period ended September 30, 1999 as
compared to the respective periods ending September 30, 1998. This compares to
revenue growth in the black & white segment of 870% and 614% for the three and
nine month periods ended September 30, 1999 as compared to the respective
periods ended September 30, 1998. In absolute dollars, the black & white segment
contributed 132% and 76% of the revenue growth for the three and nine month
periods ended September 30, 1999 as compared to the respective periods ended
September 30, 1998. The majority of the revenue growth in the black & white
segment is concentrated in new products with one customer. The growth of revenue
in these particular products may not be sustainable and may in fact decline (for
example if the orders to date are the result of "channel fill" rather than
ongoing demand).
The products in the two growth segments, except for chipset solutions, are
generally characterized by much higher unit volumes but lower unit prices and
associated margins than the Company has experienced in its more traditional
stand-alone server line of products. The chipset solutions can be characterized
by lower unit prices and higher per unit margins compared to the traditional
stand-alone server line of products. The Company anticipates further growth in
these two categories as a percentage of total revenue. To the extent these
categories do not grow over time in absolute terms, or if the Company is not
able to meet demand for higher unit volumes, it could have a material adverse
effect on the Company's results. The Company believes that stand-alone server
products have not experienced revenue growth for the three and nine month
periods ended September 30, 1999 compared to the three and nine month periods
ended September 30, 1998, due to a number of factors. Since early 1998, low-end
products that previously shipped as stand-alone products have begun to ship as
embedded products. In addition, desktop products are replacing stand-alone
servers as the price / performance relationship on the newer color desktop
printers continues to improve. Further, many of the Company's OEM partners are
scheduled to release new copier products in the coming year. It is possible that
customers are holding off purchases until these products are released, thus
delaying purchases of the Company's products as well. Finally, prices have been
reduced on older product lines as new products have begun to ship in volume.
There can be no assurance that the new products for the remainder of 1999 will
be accepted on a timely basis by any of the Company's OEM partners, or that they
will successfully compete, or be accepted by the market, or otherwise be able to
effectively replace the volume of revenue and / or income from the older
products.
The Company also believes that in addition to the factors described above, price
reductions for all of its products may affect revenues in the future. The
Company has made and may in the future make price reductions for its products.
Depending upon the price-elasticity of demand for the Company's products, the
pricing and quality of competitive products, and other economic and competitive
conditions, such price reductions may have an adverse impact on the Company's
revenues and profits. If the Company is not able to compensate for lower gross
margins that may result from price reductions with an increased volume of sales,
its results of operations could be adversely affected. In addition, if the
Company's revenue in the future depends more upon sales of products with
relatively lower gross margins than the Company obtained in the first half of
1999 (such as embedded controllers for printers, embedded controllers for color
and black-and-white copiers, and stand-alone controllers for black-and-white
copiers), results of operations may be adversely affected.
13
<PAGE>
Shipments by geographic area for the three and nine month periods ended
September 30, 1999 and September 30, 1998 were as follows:
Three Months Three Months
Ended Ended
September 30, 1999 September 30, 1998 % Change
------------------ ------------------
(in thousands)
North America $77,762 49% $67,461 52% 15%
Europe 45,833 29% 39,868 31% 15%
Japan 27,614 17% 18,886 14% 46%
Rest of World 7,002 5% 3,589 3% 95%
-------- --- -------- --- --
$158,211 100% $129,804 100% 22%
======== ==== ======== ==== ===
Nine Months Nine Months
Ended Ended
September 30, 1999 September 30, 1998 % Change
------------------ ------------------
(in thousands)
North America $200,179 48% $156,575 50% 28%
Europe 135,926 32% 104,911 33% 30%
Japan 72,621 17% 44,919 14% 62%
Rest of World 14,375 3% 9,810 3% 47%
-------- --- -------- --- --
$423,101 100% $316,215 100% 34%
======== === ======== === ==
All geographic locations showed an increase in shipments of at least 15% for the
three month period ended September 30, 1999 compared to the three month period
ended September 30, 1998, with the "Rest of World" segment yielding the most
significant increase of 95%. Shipments to North America and Europe increased
moderately over the prior period of 1998 (15% increase), while Japan and Rest of
World increased over 50% (combined) for the three and nine month periods ended
September 30, 1999 compared to the same periods in 1998. The Rest of World is
predominantly represented by the Southeast Asian region. The increase in sales
to Japan and the Rest of World region is a result of both our OEMs achieving
success with new products in these regions, as well as modest overall economic
recovery. However, such conditions are difficult to predict and the Company does
not know if the improvement in the economic conditions in Southeast Asia and
Japan will be sustained during the remainder of 1999 or into 2000. Limited
demand from Southeast Asia and Japan may have an adverse impact on the Company's
results of operations.
As shipments to some of the Company's OEM partners are made to centralized
purchasing and manufacturing locations which in turn sell through to other
locations, the Company believes that export sales of its products into each
region may differ from what is reported. The Company expects that export sales
will continue to represent a significant portion of its total revenue.
14
<PAGE>
Substantially all of the revenue for the last three years has been attributable
to sales of products through the Company's OEM channels with such partners as
Canon, Epson, Fuji-Xerox, IBM, Hewlett-Packard, Kodak/Danka Business Systems,
Konica, Lanier, Minolta, Oce, Ricoh, Sharp, Xerox and others. During 1999, the
Company has continued to work on both increasing the number of OEM partners, and
expanding the size of existing relationships with its OEM partners. The Company
relied on three OEM customers, Canon, Xerox and Ricoh in aggregate for 72% and
67% of its revenue for the three month periods ended September 30, 1999 and
September 30, 1998, respectively. The Company relied on the same three OEM
customers, Canon, Xerox and Ricoh in aggregate for 68% and 67% of its revenue
for the nine month periods ended September 30, 1999 and September 30, 1998. In
the event that any of these OEM relationships are scaled back or discontinued,
the Company may experience a significant negative impact on its consolidated
financial position and results of operations. In addition, no assurance can be
given that the Company's relationships with these OEM partners will continue.
The Company continues to work on the development of products utilizing both the
Fiery architecture and other products and intends to continue to introduce new
generations of Fiery products and other new product lines during the remainder
of 1999 and beyond. No assurance can be given that the introduction or market
acceptance of new, current or future products will be successful.
It is also possible that revenues in the future may be adversely affected if
individuals with responsibility for purchasing the Company's Fiery products,
such as information technology professionals, choose to devote available
discretionary resources to other perceived needs, such as technology expenses
associated with Year 2000 preparation and / or Euro currency conversion
projects. In addition, companies that successfully performed Year 2000
compliance testing might not be willing to buy new products and connect them to
their existing networks that have met year 2000 compliance standards until after
January 2000 in order to avoid any risks associated with the new products. At
this time, the Company cannot determine how much impact, if any, these factors
may have on the Company's revenue, financial condition or results of operations.
Cost of Revenue
Third-party manufacturers purchase most of the necessary components and
manufacture Fiery color servers as well as embedded / desktop controllers and
digital black and white products. The Company directly sources processors,
memory, certain ASICs, and software licensed from various sources, including
Postscript(TM) interpreter software, which the Company licenses from Adobe
Systems incorporated.
Included in cost of revenue as well as operating expenses for the nine month
period ended September 30, 1999, are one-time costs of moving to the Company's
new corporate headquarters in Foster City, California. Total moving costs for
the nine month period ended September 30, 1999 amounted to $1.8 million of which
approximately $0.2 million related to cost of revenue. All moving related costs
were incurred in the first quarter of 1999.
15
<PAGE>
Gross Margins
The Company's gross margin was 50% and 43% for the three month periods ended
September 30, 1999 and September 30, 1998, respectively and 49% and 44% for the
nine month periods ended September 30, 1999 and September 30, 1998,
respectively. The increase in gross margin was due to a combination of factors,
including the product mix and the mix of OEM partners during the two years.
Further, the increased volume and resulting production shift to larger
subcontractor manufacturers resulted in efficiencies in purchasing and
manufacturing in the three and nine month periods ended September 30, 1999 as
compared to the same time periods one year ago. In addition, certain
manufacturing efficiencies were slightly offset by price reductions on older
product lines.
The Company expects that sales of products with relatively lower margins may
further increase as a percentage of revenue. Such products include older
products for which prices are reduced during product transitions, embedded
products for both desktop printers and copiers, and stand-alone servers and
embedded controllers for black-and-white copiers.
If such sales increase as a percentage of the Company's revenue, gross margins
as a percentage of revenue may decline, unless the Company is able to obtain
additional efficiencies in purchasing and manufacturing.
The Company's ability to maintain current gross margins may not continue. In
addition to the factors affecting revenue described above, the Company expects
to be subject to pressures to reduce prices, and as a result, gross margins for
all of its products may decline as a percentage of revenues.
In general, the Company believes that gross margins will continue to be impacted
by a variety of factors. These factors include the market prices that can be
achieved on the Company's current and future products, the availability and
pricing of key components (including DRAM and PostScript(TM) interpreter
software), third party manufacturing costs, product, channel and geographic mix,
the success of the Company's product transitions and new products, competition,
and general economic conditions in the United States and abroad. Consequently,
the Company anticipates gross margins will fluctuate from period to period.
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Operating Expenses
Operating expenses increased by 15% to $40.2 million for the three month period
ended September 30, 1999 compared to $34.8 million for the three month period
ended September 30, 1998. Operating expenses as a percentage of revenue amounted
to 25% for the three month period ended September 30, 1999 and 27% for the three
month period ended September 30, 1998. Operating expenses increased by 12% to
$113.8 million for the nine month period ended September 30, 1999 compared to
$102.8 million for the nine month period ended September 30, 1998. Operating
expenses as a percentage of revenue amounted to 27% for the nine month period
ended September 30, 1999 and 33% for the nine month period ended September 30,
1998. The 1999 figure includes approximately $1.4 million of non-recurring costs
related to the MGI merger incurred during the third fiscal quarter. Year-to-date
results in 1999 also include the one time moving expenses of approximately $1.6
million allocated to operating expenses in the first quarter of 1999. Excluding
these unusual items, operating expenses as a percentage of revenue would have
measured 24% and 27% for the three and nine months ended September 30, 1999
versus 27% and 33% for the corresponding three and nine month periods ending
September 30, 1998. The increase in absolute dollars of operating expenses is
the result of the support needed for the expanding business and the increased
research and development activity necessary to develop additional new products.
The decrease in operating expenses as a percentage of revenues is the result of
the Company's successful spending control during 1999, and the shift toward more
embedded / desktop and black and white business which requires less sales and
marketing expenditure by the Company than the Company's stand-alone server
products. The Company anticipates that operating expenses will continue to grow
and may increase both in absolute dollars and as a percentage of revenue.
The components of operating expenses are detailed below.
Research and Development
Expenses for research and development consist primarily of personnel expenses
and, to a lesser extent, consulting, depreciation and costs of prototype
materials. Research and development expenses amounted to $19.4 million or 12% of
revenue for the three month period ended September 30, 1999 compared to $15.5
million or 12% of revenue for the three month period ended September 30, 1998.
Research and development expenses amounted to $54.5 million or 13% of revenue
for the nine month period ended September 30, 1999 compared to $44.7 million or
14% of revenue for the nine month period ended September 30, 1998. The majority
of the 25% and 22% increase related to the three and nine month periods ended
September 30, 1999 compared to the same periods in 1998 was due to an increase
in research and development projects. This resulted in increased headcount
related costs. Headcount for research and development increased to 377 employees
as of September 30, 1999 including 20 engineering employees added as part of the
MGI merger. The Company believes that the development of new products and the
enhancement of existing products are essential to its continued success, and
intends to continue to devote substantial resources to research and new product
development efforts. Accordingly, the Company expects that its research and
development expenses may continue to increase in absolute dollars and also as a
percentage of revenue.
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Sales and Marketing
Sales and marketing expenses include personnel expenses, costs for trade shows,
marketing programs and promotional materials, sales commissions, travel and
entertainment expenses, depreciation, and costs associated with sales offices in
the United States, Europe, Japan, Southeast Asia and South America. Sales and
marketing expenses amounted to $14.8 million or 9% of revenue for the three
month period ended September 30, 1999 compared to $14.9 million or 12% of
revenue for the three month period ended September 30, 1998. Sales and marketing
expenses amounted to $44.3 million or 11% of revenue for the nine month period
ended September 30, 1999 compared to $45.8 million or 15% of revenue for the
nine month period ended September 30, 1998. Sales and marketing expenses
decreased by 1% and 3% in the three and nine month periods ended September 30,
1999 over the respective periods ended September 30, 1998. The decrease is the
result of the lower relative promotional expenses required to support the
growing two newer business segments compared to the traditional segment of
stand-alone servers connecting to digital color copiers. The decrease in
expenses was partially offset by an increase in personnel expenses related to an
increase in headcount of 31 to 209 employees as of September 30, 1999. Included
in the headcount figures for September 30, 1999 are 15 employees included as
part of the MGI merger.
The Company expects that its sales and marketing expenses may increase in
absolute dollars and possibly also as a percentage of revenue as it continues to
actively promote its products, launch new products and continue to build its
sales and marketing organization, particularly in Europe and Asia Pacific,
including Japan. This increase might not proportionally increase with increases
in volume if the Company's sales continue to gravitate toward embedded desktop
controllers, bundled color solutions and chipset solutions as well as
controllers for digital black and white solutions, which require less relative
promotional support from the Company because the OEM partners contribute more
significantly to the sales and marketing efforts for these products.
General and Administrative
General and administrative expenses consist primarily of personnel expenses and,
to a lesser extent, depreciation and facility costs, professional fees and other
costs associated with public companies. General and administrative expenses
amounted to $4.6 million or 3% of revenue for the three month period ended
September 30, 1999, compared to $4.4 million or 3% of revenue for the three
month period ended September 30, 1998. General and administrative expenses
amounted to $13.6 million or 3% of revenue for the nine month period ended
September 30, 1999, compared to $12.3 million or 4% of revenue for the nine
month period ended September 30, 1998. General and administrative expenses
increased by 4% and 10% in the three and nine month periods ended September 30,
1999 over the corresponding periods ended September 30, 1998. While general and
administrative expenses have slightly decreased as a percentage of total revenue
during the three periods, these expenses have slightly increased in absolute
dollars. The increases were primarily due to the increase in headcount and the
use of outside consultants in order to support the needs of the Company's
growing operations. Headcount increased by 33 employees to 92 employees as of
September 30, 1999. Included in the headcount figures for September 30, 1999 are
5 employees included as part of the MGI merger. The Company expects that its
general and administrative expenses may continue to increase in absolute dollars
and possibly also as a percentage of revenue in order to support the Company's
efforts to grow its business.
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Merger Related Expenses
During the quarter ended September 30, 1999 the Company incurred approximately
$1.4 million of non-recurring expenses related to the merger. These costs
primarily consisted of professional fees, severance costs, and travel expenses.
Severance costs related to 33 former employees of MGI, and the terminations are
expected to be completed by the end of October 1999. These positions were
eliminated due to duplication of resources between California and Minnesota
locations. Functionally, the Company eliminated 6 manufacturing, 15 service, 1
engineering, 6 sales and marketing, and 5 administrative positions.
Other Income
Other income relates mainly to interest income and expense, and gains and losses
on foreign currency transactions. Other income amounted to $4.2 million for the
three month period ended September 30, 1999 compared to $2.5 million for the
three month period ended September 30, 1998. Other income amounted to $11.6
million for the nine month period ended September 30, 1999 compared to $6.4
million for the nine month period ended September 30, 1998. Other income
increased by 68% and 83% for the three and nine month periods ended September
30, 1999 compared to the respective periods ended September 30, 1998. The
increase in other income is due primarily to the interest earned on the higher
average cash and short-term investment balances for the respective periods.
Although the Company's exposure to currency fluctuations has historically been
relatively minor, the Company began to implement a hedging program in June 1998
in response to currency fluctuations in Asia.
Income Taxes
The Company's effective tax rate was 32% versus 29% for the three month periods
ended September 30, 1999 and September 30, 1998, respectively. The Company's
effective tax rate was 33% compared to 32% for the nine month periods ended
September 30, 1999 and September 30, 1998.
The difference in effective tax rate for the third quarter of 1999 (32%)
compared to the year-to-date period of 1999 (33%) stems from year-to-date
changes in the 1999 effective tax rate, applied retroactively from the beginning
of the fiscal year. For the first two quarters of 1999, the effective tax rate
had been estimated at 34%, and was reduced to 33% on a cumulative year-to-date
basis in the quarter ended September 30, 1999. The rate was reduced due to
changes in estimates of the annual taxable income and the impact of certain tax
benefits.
The difference in effective tax rate for the third quarter of 1998 (29%)
compared to the year-to-date period of 1998 (32%) stems from year-to-date
changes in the 1998 effective tax rate, applied retroactively from the beginning
of the fiscal year. For the first two quarters of 1999, the effective tax rate
had been estimated at 36%, and was reduced to 32% on a cumulative year-to-date
basis in the quarter ended September 30, 1999. The rate was reduced in 1998 due
to changes in estimates of taxable income and the impact of certain tax
benefits.
The Company's tax rates are subject to adjustment from time to time, based on a
combination of factors including changes in profitability from operations, level
of interest income from municipal bonds, spending on Research and Development
programs, export sales outside of the U.S., as well as changes in the tax laws
in the United States, as well as in other countries that the Company is required
to file in. While we believe that the effective tax rate currently projected in
the financial statements is appropriate for 1999 financial results, there can be
no assurance that the tax rate will not increase in the future due to changes in
business levels, changes in tax laws, or other unforeseen events.
19
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LIQUIDITY AND CAPITAL RESOURCES
Cash, cash equivalents and short-term investments increased by $104.7 million to
$433.4 million as of September 30, 1999 from $328.7 million as of December 31,
1998, representing and increase of 32%. Working capital increased by $109.2
million to $464.6 million as of September 30, 1999 up from $355.4 million as of
December 31, 1998. These increases were primarily the result of the increase in
net income, changes of balance sheet components and the exercise of employee
stock options.
Net cash provided by operating activities was $94.0 million for the nine month
period ended September 30, 1999, respectively. The increase in 1999 was
primarily due to a significant increase in net income, accounts payable, and
taxes payable as well as reductions in inventory, offset in part by an increase
in accounts receivable.
During the first nine months of 1999, the Company continued to invest cash in
short-term investments, mainly municipal securities. Due to capital market
situations during the first nine months of 1999, the Company invested relatively
more cash in securities with a maturity at the date of purchase of less than 90
days. This resulted in an increase of cash and cash equivalents of $39.9
million, while short-term investments increased by $64.8 million as of September
30, 1999, when compared to December 31, 1998.
The Company's capital expenditures generally consist of investments in computers
and related peripheral equipment and office furniture for use in the Company's
operations. The Company purchased approximately $13.4 million and $9.1 million
of such equipment and furniture during the nine month periods ended September
30, 1999 and September 30, 1998, respectively.
In 1997, the Company entered into an agreement to lease a ten-story 295,000
square foot building to be constructed in 1998 and 1999 on 35 acres, which the
Company owns in Foster City, California. The lessor of the building funded the
costs of the building construction directed by the Company. The building
construction was completed on July 15, 1999 and the final balance on the
commitment amounted to $56.8 million. Rent payments for the building commenced
upon completion of construction and bear a direct relationship to the carrying
cost of the amount drawn on the commitment. The initial term of the lease is 7
years with options to purchase at any time. The move to the new corporate
headquarters was completed in the first quarter of 1999 and the Company incurred
one time moving expenses of approximately $1.8 million during the first quarter
of 1999. Also in conjunction with the lease, the Company has entered into a
separate ground lease with the lessor of the building for approximately 35
years. The Company has guaranteed a residual value associated with the building
to the lessor of approximately 82% of the lessor's funding. If the Company
defaults on the lease, does not renew the lease, does not purchase the building
or does not arrange for a third party purchase of the building at the end of the
lease term, it may be liable to the lessor for the amount of the residual
guarantee. As part of the lease agreement the Company must maintain a minimum
tangible net worth. In addition, the Company has pledged certain marketable
securities ($68.2 million at September 30, 1999) to be held in proportion to the
amount drawn in order to secure a more favorable lease rate and avoid other
covenant restrictions. The Company may use these funds at any time, but their
conversion would also result in an increase to the lease rate and the imposition
of additional financial covenant restrictions.
Cash provided by the exercise of stock options amounted to $23.6 million for the
nine month period ended September 30, 1999, a $22.9 million increase over cash
provided from option exercises during the corresponding period in 1998. The
increase was due to a higher volume of stock option exercises during the nine
month period ended September 30, 1999 compared to the nine month period ended
September 30, 1998.
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The Company believes that its existing capital resources, together with cash
generated from continuing operations will be sufficient to fund its operations
and meet capital requirements for at least the next twelve-month period.
Year 2000 Status
The Company has updated substantially its entire internal computer system
infrastructure over the last few years, and the Company believes that virtually
all critical pieces of hardware and software have been represented to be Year
2000 compliant by their manufacturers. As of the end of September 1999 all major
internal systems had been upgraded to versions represented by the manufacturer
as Year 2000 compliant and tested on a limited basis by the Company with the
exception of one system having to do with call tracking and post sale support.
This particular system is currently in the process of being upgraded and tested
and this process is expected to be completed by the end of November 1999.
Although the Company continues to review and assess its internal systems, based
on its investigation to date, the Company currently believes that Year 2000
issues will not materially affect its internal Management Information Systems.
However, there can be no assurance that the Company will have identified or
procured all of the resources necessary to address all critical Year 2000
deficient hardware and software systems on a timely basis and the Company may
need to expend additional resources to identify, modify or repair internal
systems.
During the first nine months of 1999, the Company spent approximately $600,000
of $1.2 million the Company has allotted to spend in fiscal 1999 on addressing
and preparing for potential Year 2000 problems and related issues.
Although the Company generally does not sell products to end-users, the Company
has been working with certain of its OEM partners to test the Company's products
in conjunction with the OEM's products to determine if the combined products
will successfully rollover from the years 1999 to 2000 and 2000 to 2001, and if
such products will correctly recognize the date February 29, 2000. The Company's
products recently developed and currently under development are designed to
address the Year 2000 issue. However, while the Company has tested its products,
the Company does not certify that any of its products will perform as tested
when used with other companies' products (including hardware and software) or
when used in circumstances that are not reflected in the testing the Company has
performed. Given that the Company does not and cannot control other companies'
products, including other companies' software, the Company is unable to provide
assurances that any other companies' products or software will not suffer any
errors or malfunctions related to the Year 2000. In addition, although certain
Year 2000 sensitive materials and components in the Company's internal systems
may have passed internal Year 2000 compliance testing by the manufacturers of
such materials or by our suppliers or vendors, the Company cannot be certain
that such materials or components will perform as tested when used in
circumstances not reflected by such testing.
To date the Company has reviewed the majority of Year 2000 plans and
preparations of its significant manufacturers, suppliers, customers and other
critical third parties with whom it does business and considered the status and
availability of those third party plans in developing a contingency plan. The
Company has developed a contingency plan to continue operations in the best
manner possible in the event of a Year 2000 problem. The specific actions
identified differ depending on circumstances, but most often include manual
work-arounds, deployment of backup or secondary technologies, rearranging
schedules, and substitution of suppliers, as appropriate. The Company continues
to assess the effects and costs associated with possible Year 2000 problems;
however, the total effects and costs are unknown to the Company at this time.
There can be no assurance that such effects and costs will not have a materially
adverse effect on the Company, its financial condition, or results of
operations.
21
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Euro Assessment
Eleven of the fifteen member countries of the European Union have established
fixed conversion rates between their existing sovereign currencies and the Euro
and have adopted the Euro as a common currency as of January 1, 1999. The Euro
is trading on currency exchanges and is available for non-cash transactions. The
conversion to the Euro is not expected to have a material adverse effect on the
operating results of the Company as the Company predominantly invoices in U.S.
Dollars. The Company is currently in the process of evaluating the reporting
requirements in the respective countries and the related system, legal and
taxation requirements. The Company expects that required modifications will be
made on a timely basis and that such modifications will not have a material
adverse impact on the Company's operating results. There can be no assurance,
however, that the Company will be able to complete such modifications to comply
with Euro currency conversion requirements, which could have a material adverse
effect on the Company's operating results and financial condition.
22
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Factors That Could Adversely Affect Performance
Our performance may be adversely affected by the following factors:
We rely on sales to a relatively small number of OEM partners, and the loss of
any of these customers could substantially decrease our revenues
Because we sell our products primarily to our OEM partners, we rely on high
sales volumes to a relatively small number of customers. We expect that we will
continue to depend on these OEM partners for a significant portion of our
revenues. If we lose an important OEM or we are unable to recruit additional
OEMs, our revenues may be materially and adversely affected. We cannot assure
you that our major customers will continue to purchase our products at current
levels or that they will continue to purchase our products at all. In addition,
our results of operations could be adversely affected by a decline in demand for
copiers or laser printers, other factors affecting our major customers, in
particular, or the computer industry in general.
We rely upon our OEM partners to develop new products, applications and product
enhancements in a timely and cost-effective manner. Our continued success
depends upon the ability of these OEMs to meet changing customer needs and
respond to emerging industry standards and other technological changes. However,
we cannot assure you that our OEMs will effectively meet these technological
challenges. These OEMs, who are not within our control, may incorporate into
their products the technologies of other companies in addition to, or instead of
our products. These OEMs may introduce and support products that are not
compatible with our products. We rely on these OEMs to market our products with
their products, and if these OEMs do not effectively market our products our
sales revenue may be materially and adversely affected. With the exception of
certain minimum purchase obligations, these OEMs are not obligated to purchase
products from us. We cannot assure you that our OEMs will continue to carry our
products.
Our OEMs work closely with us to develop products that are specific to each
OEM's copiers and printers. For many of the products we are developing, we need
to coordinate development, quality testing, marketing and other tasks with our
OEMs. We cannot control our OEMs' development efforts and coordinating with our
OEMs may cause delays that we cannot manage by ourselves. In addition, our sales
revenue and results of operations may be adversely affected if we cannot meet
our OEM's product needs for their specific copiers and printers, as well as
successfully manage the additional engineering and support effort and other
risks associated with such a wide range of products.
We are pursuing, and will continue to pursue, the business of additional copier
and printer OEMs. However, because there are a limited number of OEMs producing
copiers and printers in sufficient volume to be attractive customers for us, we
expect that customer concentration will continue to be a risk.
23
<PAGE>
If we are unable to develop new products, or execute product introductions on a
timely basis, our future revenue and operating results may be negatively
impacted
Operating results will depend to a significant extent on continual improvement
of existing technologies and rapid innovation of new products and technologies.
Our success depends not only on our ability to predict future requirements, but
also to develop and introduce new products that successfully address customer
needs. Any delays in the launch or availability of new products we are planning
could have an adverse effect on our financial results. During transitions from
existing products to new products, customers may delay or cancel orders for
existing products. Our results of operations may be adversely affected if we
cannot successfully manage product transitions or provide adequate availability
of products after they have been introduced.
In this environment, we must continue to make significant investments in
research and development in order to enhance performance and functionality of
our products, including product lines different than our Fiery servers and
embedded controllers. We cannot assure you that we will successfully identify
new product opportunities, develop and introduce new products to market in a
timely manner, and achieve market acceptance of our products. Also, if we decide
to develop new products, our research and development expenses may increase in
the short term without a corresponding increase in revenue. Finally, we cannot
assure you that products and technologies developed by others will not render
our products or technologies obsolete or noncompetitive.
We license software used in most of our products from Adobe Systems
Incorporated, and the loss of this license would prevent us from shipping these
products
Under our license agreements with Adobe, a separate license must be granted from
Adobe to us for each type of copier or printer used with a Fiery Server or
Controller. If Adobe does not grant us such licenses or approvals, if the Adobe
license agreements are terminated, or if our relationship with Adobe is
otherwise impaired, our financial condition and results of operations may be
materially adversely affected. To date, we have successfully obtained licenses
to use Adobe's PostScript(TM) software for our products, where required.
However, we cannot assure you that Adobe will continue to grant future licenses
to Adobe PostScript(TM) software on reasonable terms, in a timely manner, or at
all. In addition, we cannot assure you that Adobe will continue to give us the
quality assurance approvals we are required to obtain from Adobe for the Adobe
licenses.
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If the demand for products that enable color printing of digital data decreases,
our sales revenue may decrease
Our products are primarily targeted at enabling the color printing of digital
data. If demand for this service declines, or if the demand for our OEM's
specific printers or copiers that our products are designed for should decline,
our sales revenue may be adversely affected. Although demand for networked color
printers and copiers has increased in recent years, we cannot assure you that
such demand will continue, nor can we control whether the demand will continue
for the specific OEM printers and copiers that utilize our products will
continue. We believe that demand for our products may also be affected by a
variety of economic conditions and considerations, and we cannot assure you that
demand for our products will continue at current levels. In addition,
individuals with responsibility for purchasing our products, such as information
technology professionals, may choose to devote available discretionary resources
to other perceived needs, such as technology expenses associated with Year 2000
preparation and / or Euro currency conversion projects. Finally, companies that
successfully performed Year 2000 compliance testing might not be willing to buy
new products and connect them to their existing networks that have met year 2000
compliance standards, until after January 2000 in order to avoid any risks
associated with the new products. At this time, we cannot determine how much of
an impact, if any, these factors may have.
If we were to enter new markets or distribution channels this could result in
delayed revenues or higher operating expenses
We continue to explore opportunities to develop product lines different from our
Fiery servers and embedded controllers. We may need to invest funds for the
development of new distribution and marketing channels for these new products.
We do not know if we would be successful in developing these channels or whether
the market would accept any new products. In addition, even if we are able to
introduce new products, these products (including more powerful products sold at
a lower price) may adversely impact gross margins or revenue from existing
products.
We face competition from other suppliers as well as our own OEM customers, and
if we are not able to compete successfully then our business may be adversely
impacted
Our industry is highly competitive and is characterized by rapid technological
changes. We compete against a number of other suppliers of imaging products. We
cannot assure you that products or technologies developed by competing suppliers
will not render our products or technologies obsolete or noncompetitive.
While many of our OEM's sell our products on an exclusive basis, we do not have
any formal agreements that prevent the OEMs from offering alternative products.
If an OEM offers products from alternative suppliers our market share could
decrease, which could reduce our revenue and negatively affect our financial
results.
Our OEM partners may themselves internally develop and supply products similar
to our current products. These OEMs may be able to develop similar products that
are compatible with their own products more quickly than we can. These OEMs may
choose to market their own products, even if these products are technologically
inferior, have lower performance or cost more. We cannot assure you that we will
be able to continue to successfully compete against similar products developed
internally by our OEMs or against their financial and other resources. If we
cannot compete successfully against our OEMs' internally developed products, our
business may be adversely impacted.
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If we are not able to hire and retain skilled employees, we may not be able to
develop products or meet demand for our products in a timely fashion
We depend upon skilled employees, such as software and hardware engineers,
quality assurance engineers and other technical professionals. We are located in
the Silicon Valley where competition among companies to hire engineering and
technical professionals is intense. It is difficult for us to locate and hire
qualified engineers and technical professionals and for us to retain these
people. There are many technology companies located nearby that may try to hire
our employees. If we do not offer competitive compensation, we may not be able
to recruit or retain employees. If we cannot successfully hire and retain
employees, we may not be able to timely develop products or to meet demand for
our products in a timely fashion and our results of operations may be adversely
impacted.
Our operating results may fluctuate based upon many factors, which could
adversely affect our stock price
We expect our stock price to vary with our operating results and, consequently,
adverse fluctuations could adversely affect our stock price. Operating results
may fluctuate due to:
o demand for our products;
o success and timing of new product introductions;
o changes in interest rates and availability of bank or financing credit
to consumers of digital copiers and printers;
o price reductions by us and our competitors;
o delay, cancellation or rescheduling of orders;
o product performance;
o availability of key components;
o the status of our relationships with our OEM partners;
o the performance of third-party manufacturers;
o the status of our relationships with our key suppliers;
o potential excess or shortage of skilled employees; and
o general economic conditions.
Many or our products, and the related OEM copiers and printers, are purchased
utilizing lease contracts or bank financing. If prospective purchasers of
digital copiers and printers are unable to obtain credit, or interest rate
changes make credit terms undesirable, this may significantly reduce the demand
for digital copiers and printers, negatively impacting our revenues and
operating results.
Typically we do not have long-term volume purchase contracts with our customers,
and a substantial portion of our backlog is scheduled for delivery within 90
days or less. Our customers may cancel orders and change volume levels or
delivery times for product they have ordered from us without penalty. However, a
significant portion of our operating expenses are fixed in advance, and we plan
these expenditures based on the sales forecasts from our OEM customers and
product development programs. If we were unable to adjust our operating expenses
in response to a shortfall in our sales, there could be a material adverse
effect on our quarterly financial results.
We attempt to hire additional employees to match growth in projected demand for
our products. If we project a higher demand than materializes, we will hire too
many employees and incur expenses that we need not have incurred and our margins
may be lower. If we project a lower demand than materializes, we will hire too
few employees, we may not be able to meet demand for our products and our sales
revenue may be lower. If we cannot successfully manage our growth, our results
of operations may be adversely affected.
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The value of our investment portfolio will decrease if interest rates increase
We have an investment portfolio of mainly fixed income securities classified as
available-for-sale securities. As a result, our investment portfolio is subject
to interest rate risk and will fall in value if market interest rates increase.
We attempt to limit this exposure to interest rate risk by investing primarily
in short-term securities. We may be unable to successfully limit our risk to
interest rate fluctuations and this may cause our investment portfolio to
decrease in value.
Our stock price has been and may continue to be volatile
Our common stock, and the stock market generally, have from time to time
experienced significant price and volume fluctuations. The market prices for
securities of technology companies have been especially volatile, and
fluctuations in the stock market are often unrelated to the operating
performance of particular companies. These broad market fluctuations may
adversely affect the market price of our common stock. Our common stock price
may also be affected by the factors discussed above in this section as well as:
o Fluctuations in our results of operations, revenues or earnings or
those of our competitors;
o Failure of such results of operations, revenues or earnings to meet
the expectations of stock market analysts and investors;
o Changes in stock market analysts' recommendations regarding us;
o Real or perceived technological advances by our competitors;
o Political or economic instability in regions where our products are
sold or used; and
o General market and economic conditions.
We face risks from our international operations and from currency fluctuations
Approximately 53% and 52% of our revenue from the sale of products for the nine
month periods ended September 30, 1999 and September 30, 1998, respectively,
came from sales outside North America, primarily to Europe and Japan. We expect
that sales to international destinations will continue to be a significant
portion of our total revenue. You should be aware that we are subject to certain
risks because of our international operations. These risks include the
regulatory requirements of foreign governments which may apply to our products,
as well as requirements for export licenses which we may be required for the
export of certain technologies. The necessary export licenses may be delayed or
difficult to obtain, which could cause a delay in our international sales and an
adverse effect on our product revenue. Other risks include trade protection
measures, natural disasters, and political or economic conditions in a specific
country or region.
We believe that continued economic distress in Japan and elsewhere in Asia might
limit demand in these regions for our products. Economic distress in other parts
of the world such, as Brazil, may also limit demand for our products. The move
to a single European currency, the Euro, and the resulting central bank
management of interest rates to maintain fixed currency exchange rates among the
member nations may lead to economic conditions which adversely impact sales of
our products.
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<PAGE>
Given the significance of our export sales to our total product revenue, we face
a continuing risk from the strengthening of the U.S. dollar versus the Japanese
yen, the Euro and other major European currencies, and numerous Southeast Asian
currencies, which could cause lower unit demand and the necessity that we lower
average selling prices for our products because of the reduced strength of local
currencies. Either of these events could adversely impact our revenues and gross
margin. Although we typically invoice our customers in U.S. dollars, when we do
invoice our customers in local currencies, our cash flows and earnings are
exposed to fluctuations in interest rates and foreign currency exchange rates
between the currency of the invoice and the U.S. dollar. We attempt to limit or
hedge these exposures through operational strategies and financial market
instruments where we consider it appropriate. To date we have mostly used
forward contracts to reduce our risk from interest rate and currency
fluctuations. However, our efforts to reduce the risk from our international
operations and from fluctuations in foreign currencies or interest rates may not
be successful, which could materially adversely affect our financial condition
and operating results.
We may be unable to adequately protect our proprietary information
We rely on a combination of copyright, patent and trade secret protection,
nondisclosure agreements, and licensing and cross-licensing arrangements to
establish and protect our proprietary rights. We cannot be certain that any
patents that may be issued to us, or which we license from third parties, or any
other of our proprietary rights will not be challenged, invalidated or
circumvented. In addition, we cannot be certain that any rights granted to us
under any patents, licenses or other proprietary rights will provide adequate
protection of our proprietary information. Any failure to adequately protect our
proprietary information could materially adversely affect our financial
condition and operating results.
28
<PAGE>
We face risks from third party claims of infringement and potential litigation
Third parties may claim that our products infringe, or may infringe, their
proprietary rights. Such claims could result in lengthy and expensive
litigation. Such claims and any related litigation could result in substantial
costs and diversion of our resources. Although we may seek licenses from third
parties covering intellectual property that we are allegedly infringing, we
cannot guarantee that any such licenses could be obtained on acceptable terms,
if at all.
Seasonal purchasing patterns of our OEM customers have historically caused lower
fourth quarter revenue, which may negatively impact the stock price
Our results of operations have typically followed a seasonal pattern reflecting
the buying patterns of our large OEM customers. In the past, our fiscal fourth
quarter results have been adversely affected because some or all of our OEM
customers wanted to decrease, or otherwise delay fourth quarter orders. In
addition, the first fiscal quarter traditionally has been a weaker quarter
because our OEM partners focus on training of their sales forces. The primary
reasons for this seasonal pattern are:
o Fluctuation in demand for our products from our OEM partners, who
have historically sought to minimize year-end inventory investment
(including the reduction in demand following introductory "channel
fill" purchases). Fluctuation in demand is also caused by timing
of new product releases and training by our OEM partners; and
o The fact that our OEM partners have achieved their yearly sales
targets and consequently delayed further purchases into the next
fiscal year, and the fact that we do not know when our partners
reach these sales targets as they generally do not share them with
us.
As a result of these factors, we believe that period to period comparisons of
our operating results are not meaningful, and you should not rely on such
comparisons to predict our future performance. We anticipate that future
operating results may fluctuate significantly due to this seasonal demand
pattern.
Our systems or those of third parties may fail in the year 2000, which would
delay our product development and the sale of our products
Failure of our computer systems could adversely affect our product development
processes and/or our ability to cost-effectively manage our company during the
time required to fix such problems. In addition, computer failures could cause
our customers to postpone or cancel orders for our products. We are currently
assessing the readiness of our computer systems and those of our major customers
to handle dates beyond the year 1999. Unforeseen problems in our own computers
and embedded systems and from customers, suppliers and other organizations with
which we conduct transactions worldwide may arise. These statements constitute
year 2000 disclosures under federal law. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Year 2000 Status"
for more information on the status of our preparation relating to this issue.
We may make future acquisitions and acquisitions involve numerous financial
risks
We seek to develop new technologies and products from both internal and external
sources. As part of this effort, we may make acquisitions of, or significant
investments in, other companies. Acquisitions involve numerous risks, including
the following:
o Difficulties in integration of operations, technologies, or
products;
29
<PAGE>
o Risks of entering markets in which we have little or no prior
experience, or entering markets where competitors have stronger
market positions;
o Possible write-downs of impaired assets; and
o Potential loss of key employees of the acquired company.
Mergers and acquisitions of companies are inherently risky, and no assurance can
be given that our previous or future acquisitions will be successful and will
not materially adversely affect our business, operating results, financial
condition, or stock price.
The location and concentration of our facilities subjects us to the risk of
earthquakes, floods or other natural disasters
Our corporate headquarters, including most of our research and development
facilities and manufacturing operations are located in the San Francisco Bay
Area of Northern California, an area known for seismic activity. This area has
also experienced flooding in the past. In addition, many of the components
necessary to supply our products are purchased from suppliers subject to risk
from natural disasters, based in areas including the San Francisco Bay Area,
Taiwan, and Japan. A significant natural disaster, such as an earthquake or a
flood, could have a material adverse impact on our business, financial
condition, and operating results.
We are dependent on sub-contractors to manufacture and deliver products to our
customers
The Company subcontracts with other companies to manufacture its products. We
are totally reliant on the ability of our subcontractors to produce products
sold to customers, and while we closely monitor our subcontractors performance,
there can be no assurance that such subcontractors will continue to perform for
us as well as they have in the past. There also can be no assurance that
difficulties experienced by our subcontractors (such as interruptions in a
subcontractor's ability to make or ship our products, or fix quality assurance
problems) would not adversely affect our business, operating results, or
financial condition.
30
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk
The Company is exposed to various market risks, including the changes in foreign
currency exchange rates. Market risk is the potential loss arising from adverse
changes in market rates and prices, such as foreign currency exchange and
interest rates. The Company does not purchase derivatives or other financial
instruments for trading or speculative purposes. The Company purchases financial
instruments to manage and attempt to reduce the impact of changes in foreign
currency exchange rates. The counterparties to the financial instruments the
Company is a party to are generally major financial institutions.
Foreign Exchange Contracts
As of mid 1998, the Company started to enter into forward foreign exchange
contracts to hedge the currency fluctuations in transactions denominated in
foreign currencies, thereby limiting the Company's risk that would otherwise
result from changes in exchange rates. During the three and nine month periods
ended September 30, 1999, the transactions hedged were intercompany accounts
receivable and payable between the Company and its Japanese subsidiary. The
periods of the forward foreign exchange contracts correspond to the reporting
periods of the hedged transactions. Foreign exchange gains and losses on
intercompany balances and the offsetting losses and gains on forward foreign
exchange contracts are reflected in the income statement.
As of September 30, 1999, the Company had one outstanding forward foreign
exchange contract to sell Japanese Yen equivalent to approximately $3.1 million
with an expiration date of October 29, 1999.
The estimated fair value of the foreign currency contract represents the amount
required to enter into offsetting contracts with similar remaining maturities
based on quoted market prices. As of September 30, 1999, the difference between
the fair value of the outstanding contract and the contract amount was
immaterial. Market risk was estimated as the potential decrease in fair value
resulting from a hypothetical 10% increase in the amount of Japanese Yen
necessary to purchase one U.S. Dollar. A 10% fluctuation in the exchange rate
for this currency would change the fair value of the foreign currency contract
by approximately $0.3 million. However, since the contract hedges foreign
currency denominated transactions, any change in the fair value of the contract
would be offset by changes in the underlying value of the transactions being
hedged.
Interest Rate Risk
The fair value of the Company's cash and short-term investment portfolio at
September 30, 1999, approximated carrying value due to its short-term duration.
Market risk was estimated as the potential decrease in fair value resulting from
an instantaneous hypothetical 100 basis-point increase in interest rates for the
issues contained in the investment portfolio. As of September 30, 1999, the
Company's cash and short-term investment portfolio includes debt securities of
$385.3 million, subject to interest rate risk. A 100 basis-point increase in
market interest rates would result in a decrease of fair value of the portfolio
of approximately $3.0 million.
The fair value of the Company's long-term debt, including current maturities was
estimated to be $3.9 million as of September 30, 1999, and equaled the carrying
value. The Company's long-term debt requires interest payments based on a
variable rate and therefore is subject to interest rate risk. A 10% fluctuation
in interest rates would not have a material effect on the fair value of the
outstanding long-term debt of the Company as of September 30, 1999.
31
<PAGE>
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable.
ITEM 2. CHANGE IN SECURITIES AND USE OF PROCEEDS
On August 31, 1999, the Company acquired Management Graphics, Inc., a Minnesota
corporation ("MGI"). In connection with the acquisition, the Company issued a
total of approximately 490,325 shares of its common stock to the existing
stockholders of MGI as consideration for all shares of capital stock of MGI.
These shares were issued without registration in reliance upon Section 3(a)(10)
of the Securities Act of 1933, as amended, as a result of a fairness hearing
held before the California Department of Corporations. In addition, holders of
MGI options outstanding at the time of the acquisition will receive, upon
exercise of such options, in the aggregate up to approximately 34,170 shares of
the Company's common stock. The Company has registered the issuance of such
shares on a Form S-8.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The following item was submitted to a vote of the stockholders of the Company at
the Company's Special Meeting of Stockholders held September 13, 1999:
The approval of an Amendment to the Company's 1999 Equity
Incentive Plan to increase the number of shares available for
issuance thereunder by 4,500,000 shares. Results of the voting
included 25,711,597 votes for, 16,875,632 votes against /
withheld and 52,921 shares abstained.
32
<PAGE>
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 2.1. Agreement and Plan of Merger and
Reorganization, dated as of July 14, 1999,
among Electronics For Imaging, Inc.,
Redwood Acquisition Corp. and Management
Graphics, Inc. (1)
Exhibit 10.29 The Company's 1999 Equity Incentive Plan,
as amended. (2)
Exhibit 27.1 Financial Data Schedule
---------------------
(1) Filed as Exhibit to the Company's Current Report on
Form 8-K filed September 8, 1999 and incorporated
herein by reference.
(2) Filed as Exhibit 99.1 to the Company's Registration
Statement on Form S-8 (File No. 333-88135) and
incorporated herein by reference.
(b) Reports on Form 8-K
A report on Form 8-K was filed by the Company on September
8, 1999. The report related to the acquisition of
Management Graphics, Inc. in a stock-for-stock merger,
valued at approximately $30.1 million. The merger was
completed on August 31, 1999. The Company filed as part of
the report on Form 8-K, (a) the Agreement and Plan of
Merger and Reorganization, dated as of July 14, 1999,
among Electronics For Imaging, Inc., Redwood Acquisition
Corp. and Management Graphics, Inc. and (b) the Press
Release dated August 31, 1999.
33
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
ELECTRONICS FOR IMAGING, INC.
Date: November 10, 1999
By /s/ Dan Avida
--------------------------------------
Dan Avida
Chairman of the Board of Directors and Chief
Executive Officer
(Principal Executive Officer)
By /s/ Eric Saltzman
--------------------------------------
Eric Saltzman
Chief Financial Officer, General Counsel and
Corporate Secretary
(Principal Financial and Accounting Officer)
34
<PAGE>
EXHIBIT INDEX
No. Description
--- -----------
Exhibit 2.1. Agreement and Plan of Merger and Reorganization, dated as
of July 14, 1999, among Electronics For Imaging, Inc.,
Redwood Acquisition Corp. and Management Graphics, Inc. (1)
Exhibit 10.29 The Company's 1999 Equity Incentive Plan, as amended. (2)
Exhibit 27.1 Financial Data Schedule
------------
(1) Filed as Exhibit to the Company's Current Report on Form 8-K filed
September 8, 1999 and incorporated herein by reference.
(2) Filed as Exhibit 99.1 to the Company's Registration Statement on Form
S-8 (File No. 333- 88135) and incorporated herein by reference.
35
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
ELECTRONICS FOR IMAGING INC.
FINANCIAL DATA SCHEDULE
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
This schedule contains summary financial information extracted from the
condensed balance sheet, condensed statement of operations and condensed
statement of cash flows included in the Company's Form 10-Q for the nine month
period ended September 30, 1999 and is qualified in its entirety by reference to
such financial statements and the notes thereto.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 98,779
<SECURITIES> 334,617
<RECEIVABLES> 88,460
<ALLOWANCES> 1,657
<INVENTORY> 8,649
<CURRENT-ASSETS> 546,467
<PP&E> 98,345
<DEPRECIATION> 46,833
<TOTAL-ASSETS> 607,413
<CURRENT-LIABILITIES> 81,861
<BONDS> 3,625
0
0
<COMMON> 555
<OTHER-SE> 521,372
<TOTAL-LIABILITY-AND-EQUITY> 607,413
<SALES> 423,101
<TOTAL-REVENUES> 423,101
<CGS> 216,211
<TOTAL-COSTS> 216,211
<OTHER-EXPENSES> 113,809
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 104,712
<INCOME-TAX> 34,544
<INCOME-CONTINUING> 70,168
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 70,168
<EPS-BASIC> 1.28
<EPS-DILUTED> 1.23
</TABLE>
