UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
----
X QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)
----
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1997
----
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 2-23128
Quality Semiconductor, Inc.
(Exact name of registrant as specified in it charter)
California 77-0199189
(State of Incorporation) (IRS Employer
Identification Number)
851 Martin Avenue
Santa Clara, California 95050
(Address of principal executive office)
Registrant's telephone number, including area code: (408) 450-8000
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
The number of outstanding shares of the Registrant's Common Stock as of June 30,
1997 was 7,202,394.
<PAGE>
Quality Semiconductor, Inc.
Form 10-Q for the Quarter Ended June 30, 1997
INDEX
PART I. FINANCIAL INFORMATION Page
Item 1 - Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets as of June 30, 1997 and
September 30, 1996 3
Condensed Consolidated Statements of Operations for the three
months and nine months ended June 30, 1997 and June 30, 1996 4
Condensed Consolidated Statements of Cash Flows for the nine months
ended June 30, 1997 and June 30, 1996 5
Notes to Condensed Consolidated Financial Statements 6
Item 2 - Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
PART II. OTHER INFORMATION
Item 2 - Changes in Securities 16
Item 6 - Exhibits and Reports on Form 8-K/A 16
Signatures 17
Exhibit 11.1 18
Exhibit 27.1 19
<PAGE>
PART I. FINANCIAL INFORMATION
Quality Semiconductor, Inc.
Condensed Consolidated Balance Sheets
(In thousands, except par values)
<TABLE>
<CAPTION>
June 30, September 30,
1997 1996 (1)
----------------- ----------------
(Unaudited)
ASSETS
Current Assets:
<S> <C> <C>
Cash and cash equivalents $10,173 $4,930
Short-term investments 4,267 2,403
Accounts and other receivables, net 12,451 6,659
Accounts receivable from related parties 2,252 689
Inventories 15,671 13,984
Other current assets 3,748 2,771
----------------- ----------------
Total current assets 48,562 31,436
Property and equipment, net 20,642 18,079
Goodwill and other assets 2,482 3,006
================= ================
Total assets $71,686 $52,521
================= ================
LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities:
Accounts payable $4,309 $2,749
Accounts payable to related parties 440 747
Accrued liabilities 3,361 4,159
Deferred income on shipments to distributors 4,255 2,018
Redeemable preference shares to AWA, Ltd. 7,232 6,993
Notes payable to related party due within one year 1,395 667
----------------- ----------------
Total current liabilities 20,992 17,333
Notes payable to related party 4,521 2,840
Deferred tax liabilities 1,964 2,003
Shareholders' equity:
Preferred stock, $.001 par value: Authorized 1,000;
Issued and outstanding - none - -
Common stock, $.001 par value, Authorized - 25,500,
Issued and outstanding 7,202 and 5,536 7 5
Additional paid-in-capital 40,548 28,348
Retained earnings 3,902 2,412
Deferred compensation (248) (420)
----------------- ----------------
Total shareholders' equity 44,209 30,345
================= ================
Total liabilities and shareholders' equity $71,686 $52,521
================= ================
See accompanying notes to condensed consolidated financial statements.
(1) The information in this column was derived from the Company's audited
financial statements.
</TABLE>
<PAGE>
Quality Semiconductor, Inc.
Condensed Consolidated Statements of Operations
(Unaudited)
(In thousands, except per share data)
<TABLE>
<CAPTION>
Three months ended Nine months ended
June 30, June 30,
------------------------------ -------------------------------------
1997 1996 1997 1996
------------- ------------- ---------------- ------------------
<S> <C> <C> <C> <C>
Net revenues $16,542 $11,140 $42,189 $33,472
Cost of revenues 9,487 7,208 24,414 19,655
Inventory write-downs - 2,840 - 2,840
------------- ------------- ---------------- ------------------
Total Cost of Sales 9,487 10,048 24,414 22,495
------------- ------------- ---------------- ------------------
Gross Margin 7,055 1,092 17,775 10,977
Operating expenses:
Research and development 2,325 1,916 6,539 4,925
Sales and marketing 2,119 1,701 5,803 5,308
General and administrative 1,145 1,113 3,027 3,061
------------- ------------- ---------------- ------------------
Total operating expenses 5,589 4,730 15,369 13,294
------------- ------------- ---------------- ------------------
Operating income (loss) 1,466 (3,638) 2,406 (2,317)
Other income -- 959 -- 1,438
Interest, net (101) (74) (268) 165
------------- ------------- ---------------- ------------------
Income (loss) before provision (benefit) 1,365 (2,753) 2,138 (714)
for income taxes
Provision (benefit) for income taxes 478 (970) 748 (255)
============= ============= ================ ==================
Net income (loss) $887 ($1,783) $1,390 ($459)
============= ============= ================ ==================
Net income (loss) per share $0.13 ($0.32) $0.21 ($0.08)
============= ============= ================ ==================
Shares used in computing net (loss) income
per share 7,096 5,494 6,632 5,518
============= ============= ================ ==================
See accompanying notes to condensed consolidated financial statements.
</TABLE>
<PAGE>
Quality Semiconductor, Inc.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
Nine months ended
June 30,
--------------------------
1997 1996
--------- ------------
Operating activities
Net income (loss) $1,390 $(459)
Adjustments to reconcile net income (loss) to net
cash
provided by operating activities:
Depreciation and amortization 4,074 2,516
Accretion on preference shares 239 -
Deferred income taxes (39) 2,202
Deferred compensation amortization 172 171
Changes in operating assets and liabilities (7,327) (2,777)
--------- ------------
Net cash provided by (used in) operating activities (1,491) 1,653
Investing activities
Capital expenditures (2,830) (2,224)
Sales (purchases) of short-term investments, net (1,864) 5,709
Acquisition expenditures - (4,397)
Goodwill and other assets 48 (2,913)
Repurchase of common stock (229) (584)
--------- ------------
Net cash used in investing activities (4,875) (4,409)
Financing activities
Principal payments on capital lease obligations - (125)
Principal payments on long-term debt (822) (311)
Proceeds from notes payable, net of issuance costs 2,850 -
Proceeds from issuance of stock, net of offering 9,581 429
costs
--------- ------------
Net cash provided by (used in) financing activities 11,609 (7)
--------- ------------
Net increase (decrease) in cash and cash equivalents 5,243 (2,763)
Cash and cash equivalents at beginning of period 4,930 7,637
========= ============
Cash and cash equivalents at end of period $10,173 $4,874
========= ============
Supplemental disclosures of significant non-cash investing and financing
activities:
Conversion of promissory notes into common stock $3,000 -
Acquisition of property and equipment for
issuance of long term debt $3,231 $8,814
See accompanying notes to condensed consolidated financial statements.
<PAGE>
QUALITY SEMICONDUCTOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Basis of Presentation
The accompanying financial statements have been prepared by the Company
without audit and reflect all adjustments (consisting of normal recurring
accruals) which are, in the opinion of management, necessary to present fairly
the financial information included therein. While the Company believes that the
disclosures are adequate to make the information not misleading, this financial
data should be read in conjunction with the audited financial statements and
notes thereto for the year ended September 30, 1996 included in the Company's
1996 Annual Report on Form 10-K
The consolidated financial statements include the accounts of the
Company and its wholly owned subsidiary, Quality Semiconductor Australia, Pty.,
Ltd. (QSA). Intercompany accounts and transactions have been eliminated in
consolidation.
The functional currency of the Company's foreign subsidiary is the
Australian Dollar. Subsidiary financial statements are remeasured into U.S.
Dollars for consolidation. Translation adjustments, which result from the
process of translating foreign currency financial statements into US dollars,
are included in shareholders' equity.
The Company's fiscal quarters end on the last Sunday of each calendar
quarter. For convenience, the accompanying financial statements have been shown
as ending on the last day of the calendar month.
The preparation of the consolidated forward statements are in conformity
with generally accepted accounting principles and requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements. These estimates include provisions for excess and obsolete
inventory, sales returns and product warranty claims. Actual results could
differ materially from estimates. The Company's operating results are subject to
a variety of risks common to the semiconductor industry, including bookings and
shipment uncertainties, wafer yield fluctuations, and price erosion, as well as
general economic conditions. The results of operations for the nine months ended
June 30, 1997 may not necessarily be indicative of the results for the fiscal
year ending September 30, 1997, or thereafter.
Note 2. Inventories
Inventories are stated at the lower of standard cost which approximates
actual (first-in, first-out method) or market (estimated net realizable value).
Inventories consisted of (in thousands):
June 30, September 30,
1997 1996
---------------- ----------------
Raw Materials $5,446 $7,141
Work-in-process 5,309 2,578
Finished goods 4,916 4,265
================ ================
$15,671 $13,984
================ ================
The Company's inventory valuation process is done on a part-by-part basis.
Lower of cost to market adjustments, specifically identified on a part-by-part
basis, reduce the carrying value of the related inventory and take into
consideration reductions of sales prices, excess inventory levels and obsolete
inventory. Once established, these adjustments are considered permanent and are
not reversed until the related inventory is sold or disposed.
<PAGE>
The Company produces inventory based on orders received and forecasted
demand. The Company must order wafers and build inventory well in advance of
product shipments. Because the Company's markets are volatile and subject to
rapid technology and price changes, there is a risk that the Company will
forecast incorrectly and produce excess or insufficient inventories on
particular products. This inventory risk is heightened because many of the
Company's customers place orders with short lead times. Demand will differ from
forecasts and such difference may have a material effect on actual results of
operations.
Given the volatility of the market for the Company's products, the Company
makes inventory provisions for potentially excess and obsolete inventory based
on backlog and forecast demand. However, such backlog demand is subject to
revisions, cancellations, and rescheduling. Actual demand will inevitability
differ from such backlog and forecast demand, and such differences may be
material to the financial statements. Excess inventory increases the risk of
obsolescence, is a non-productive use of capital resources, increases inventory
handling costs, and delays realization of the price and performance benefits
associated with more advanced manufacturing processes.
Note 3. Earnings Per Share
Earnings per common and common equivalent share as presented on the face of
the condensed consolidated statements of income represent primary earnings per
share. Dual presentation of primary and fully diluted earnings per share has not
been made because the differences are insignificant.
In February 1997, the Financial Accounting Standards Board issued Statement
No. 128, earnings per share, which is required to be adopted on December 31,
1997. At that time, the Company will be required to change the method currently
used to compute earnings per share and to restate all prior periods. Under the
new requirements for calculating primary earnings per share, the dilutive effect
of stock options and warrants will be excluded. The impact of Statement No. 128
on the calculation of primary and fully diluted earnings per share for three and
nine months ended June 30, 1997, and 1996, is not expected to be material.
Note 4. Convertible Promissory Notes
In November 1996, the Company negotiated a private placement of unsecured,
convertible promissory notes in the principal amount of $5.0 million, of QSA.
The notes are convertible at the option of the investors of the Company into
either 732,931 shares of the Company's common stock or 732,931 shares of
non-voting Series B Preference shares of QSA. The Company received $3.0 million
of the total financing by December 1996, which were converted into 439,758
shares of common stock. Of the remaining amount, the Company decided not to
sell, and one of the investors agreed not to buy $2.0 million of the notes.
Note 5. Redeemable Preference Shares
In December 1996 the Company negotiated revised payment terms on the
balance due to AWA Limited as a result of the acquisition of the wafer
fabrication facility from AWA MicroElectronics Pty. Ltd. The revised payment
terms are approximately $3.0 million by July 31, 1997 and the balance of
approximately $4.0 million by January 31, 1998. The $4.0 million balance will
bear interest at 10% from July 1, 1997.
<PAGE>
Note 6. Issuance of Common Stock and Warrants
In May 1997, the Company completed a private placement of 108,000 units,
each consisting of 10 shares of common stock and a one-year warrant to purchase
an additional share of common stock. The units were priced at $85.00 per unit,
for a total of $9.2 million. Proceeds from the sale will be used for general
corporate purposes and to fund the growth of its business.
Note 7.
On March 28, 1996, the Company entered into a leasing agreement with
Kanematsu USA Inc., an affiliate of Kanematsu Semiconductor Corporation, a
shareholder of the Company, to finance up to $8.2 million at a rate of 8.5% of
wafer fabrication equipment for installation at QSA. In April 1997, Kanematsu
agreed to allow the Company to borrow an additional $2.3 million at 9.25%. As of
June 30, 1997, the Company had approximately $6 million of equipment leases
outstanding under the agreement.
<PAGE>
QUALITY SEMICONDUCTOR, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This report contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21 of the
Securities Exchange Act of 1934, as amended. Actual results could differ from
those projected in the forward-looking statements as a result of the factors set
forth in "Factors That May Affect Future Results" and elsewhere in this report,
as well as factors set forth in the Company's Annual Report on Form 10-K. The
preparation of the consolidated forward statements are in conformity with
generally accepted accounting principles and requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements. These estimates include provisions for excess and obsolete
inventory, sales returns and product warranty claims. Actual results could
differ materially from estimates.
Results of Operations
On February 16, 1996 the Company acquired certain assets of AWA
Microelectonics Pty. Ltd. ("AWAM"), a subsidiary of AWA Limited, based in
Sydney, Australia. The AWAM assets that were acquired by a new subsidiary of the
Company, Quality Semiconductor Australia, Pty. Ltd. ("QSA"), included a fully
operational wafer foundry business and product design center. Beginning February
16, 1996, the company began manufacturing wafers in this facility for sale to
customers. The Company's results of operations include the operations of QSA
from February 16, 1996.
Net revenues for the quarter ended June 30, 1997 increased 48% from the
corresponding period in the prior fiscal year. Net revenues for the nine months
ended June 30, 1997 increased 26% from the same period in 1996. This increase in
net revenues for the three and nine months ended June 30, 1997 was due to
shipments of proprietary networking and clock management products which began
shipments in fiscal 1997, and increased shipments in logic products, partially
offset by lower average selling prices. As is typical in the semiconductor
industry, the average selling prices of the Company's products generally decline
over the lives of such products. To increase revenues, the Company seeks to
introduce and sell new products. Additionally, the Company seeks to increase
unit sales of existing products, principally by reducing prices in conjunction
with cost reduction programs. No assurance can be given that these efforts will
be successful. There can be no assurance that the market for semiconductor
products will either remain at its current level or grow in future periods.
Further, there can be no assurance that the Company will be able to increase or
maintain its market share in the future or to sustain historical growth rates.
Gross margin was 43% of net revenues in the third quarter of fiscal 1997 as
compared to 10% in the third quarter of fiscal 1996. During the third quarter of
fiscal 1996, the Company recorded a $2.8 million write-down for excess inventory
resulting from changes in the product revenue mix and reduced OEM demand. Prior
to the recording of inventory write-downs, third quarter fiscal 1996 gross
margins were 35%. The higher margins were principally due to changes in product
mix, specifically, the sale of higher margin networking and clock management
products and the Company's cost reduction programs. The gross margin for the
nine months ended June 30, 1997 was 42% compared to 33% for the nine months
ended June 30, 1996. Prior to inventory write-downs, the gross margin for the
first nine months of fiscal 1996 was 41%. The increase was mainly due to the
same reasons noted above. The Company's gross margin can be affected by a number
of factors including changes in product or distribution channel mix, cost and
availability of parts, competitive pressures on pricing and yield results. The
Company continues to experience increasing pricing pressure from its
competitors. The Company's margins can also vary depending upon the mix of
distributor and direct sales in any particular fiscal period and the Company
anticipates that this mix will continue to fluctuate in future periods. As a
<PAGE>
result of the above factors, gross margin fluctuations are difficult to predict,
and there can be no assurance that the Company will maintain gross margins at
current levels in future periods.
Research and development expenses were $2.3 million or 14% of net revenues
in the third quarter of fiscal 1997 as compared to $1.9 million or 17% of net
revenues in the third quarter of fiscal 1996. Research and development expenses
were $6.5 million or 15% of net revenues for the nine months ended June 30, 1997
as compared to $4.9 million or 15% of net revenues for the nine months ended
June 30, 1996. This increase for the three and nine months ended June 30, 1997,
was mainly the result of costs associated with the development of new products
and the added costs of the development and design center groups located at QSA.
The Company expects that its research and development expenses will increase,
although such expenses may vary as a percentage of net revenues in future
periods. The Company believes that the continued development of its process
technology and new products and its continued investment in research and
development is necessary to maintain a strong technological position in the
industry.
Sales and marketing expenses were $2.1 million or 13% of net revenues in
the third quarter of 1997, as compared to $1.7 million or 15% of net revenues in
the third quarter of fiscal 1996. The increase in total selling expense, was due
to increased sales commissions as a result of higher net revenues. Sales and
marketing expenses were $5.8 million or 14% of net revenues for the nine months
ended June 30, 1997 as compared to $5.3 million or 16% of net revenues for the
nine months ended June 30, 1996. The increase in selling expenses was mainly due
to increased sales commissions as a result of higher revenues. The Company
believes that increased expenses for sales and marketing activities,
particularly in export markets, are essential to maintaining its competitive
position. The Company expects that selling and marketing expenses will continue
to increase but may vary as a percentage of net revenues in future periods.
However, there can be no assurance that net revenues will grow at the same rate
as expenditures for sales and marketing are incurred.
General and administrative expenses were $1.1 million or 7% of total
revenues in the third quarter of fiscal 1997, as compared to $1.1 million or 10%
of total revenues in the third quarter of fiscal 1996. General and
administrative expenses were $3.1 million or 7% of net revenues for the nine
months ended June 30, 1997 as compared to $3.0 million or 9% of net revenues for
the nine months ended June 30, 1996. Total general and administrative expenses
for the three and nine month period ending June 30, 1997 has remained flat
compared to the prior years three and nine month periods.
Interest expense, net of interest income, was $101,000 during the three
months ended June 30, 1997 compared to interest expense of $74,000 during the
third quarter of fiscal 1996. Net interest expense was $268,000 for the nine
months ended June 30, 1997 compared to net interest income of $165,000 for the
nine months ended June 30, 1996. For the three and nine months ended June 30,
1997, the increase in net interest expense was due to $5.0 million of cash used
for the purchase of AWAM assets (QSA) in February 1996, increased interest
expense associated with the increase in notes payable used to purchase property
and equipment for QSA and interest expense on the Redeemable Preference Shares
issued as part of the consideration for the purchase of QSA.
The Company's estimated effective tax rate was 35% for the three and nine
months ended June 30, 1997. This rate is based on the estimated annual tax rate
complying with Statement of Financial Accounting Standards No. 109 "Accounting
for Income Taxes". The Company recorded a tax benefit for the three and nine
months ended June 30, 1996 based on a effective rate of 35%. This benefit was
based on available carry-back potential of operating losses incurred.
Factors That May Affect Future Results
The Company's quarterly and annual operating results are affected by a wide
variety of factors that could materially and adversely affect revenues and
profitability, including, among others, factors pertaining to (i) competition,
such as competitive pressures on average selling prices of the Company's
products and the introduction of new products by competitors; (ii) the current
<PAGE>
and anticipated future dependence on the Company's existing product lines; (iii)
new product development, such as increased research, development and marketing
expenses associated with new product introductions, the Company's ability to
introduce and qualify new products and technologies on a timely basis and the
amount and timing of recognition of non-recurring development revenue; (iv)
manufacturing and operations, such as fluctuations in manufacturing yields,
inventory management, raw materials, and production and assembly capacity; (v)
the Company operates a wafer fabrication facility which involves significant
risks typically inherent in any manufacturing endeavor, as well as additional
risks associated with production yields, technical difficulties with process
control, expenses associated with responding to increases in environmental
pollution regulation or disposal of environmentally hazardous waste and events
limiting production, such as fires or other damage, and the inability to keep
production at a high level; (vi) expenses that may be incurred in obtaining,
enforcing and defending claims with respect to intellectual property rights;
(vii) sales and marketing, such as loss of significant distributor,
concentration of customers, and volume discounts that may be granted to
significant customers; (viii) customer demand, such as market acceptance of
products, the timing, cancellation or delay of customer orders and general
economic conditions in the semiconductor and electronic systems industries, as
well as other factors, such as risks associated with doing business abroad,
retention of key personnel and management of growth and volatility in the
Company's revenues and stock price.
The semiconductor industry is intensely competitive and is characterized by
price erosion, declining gross margins, rapid technological change, product
obsolescence and heightened international competition in many markets. The
Company's competitors include large semiconductor companies that have
substantially greater financial, technical, marketing, distribution and other
resources, broader product lines and longer standing relationships with
customers than the Company, as well as emerging companies attempting to sell
products to specialized markets such as those addressed by the Company. As a
result, average selling prices "ASPs" in the semiconductor industry generally,
and for the Company's products in particular, have decreased significantly over
the life of each product. The Company expects that ASPs for its existing
products will continue to decline over time and that ASPs for each new product
will decline significantly over the life of the product. Declines in ASPs in the
Company's products, if not offset by reductions in the cost of producing those
products or by sales of new products with higher gross margins, would decrease
the Company's overall gross margins, could cause a negative adjustment to the
valuation of the Company's inventories and could materially and adversely affect
the Company's operating results.
A substantial amount of the Company's revenues are derived from sales of
interface logic devices and, in particular, products in the Company's FCT, LCX,
and QuickSwitch logic family. During fiscal 1997, the Company commenced
shipments of its CMOS Fast Ethernet products. The Company anticipates that sales
of these interface logic products will continue to comprise a substantial
portion of the Company's revenues for the foreseeable future. The demand for
such products may be sharply reduced by competition and by microprocessors or
other system devices that increasingly include interface logic. Because of the
Company's dependence on sales of these products, declines in gross margins for
these products resulting from declines in ASPs or otherwise could have a
material adverse effect on the Company's operating results.
During fiscal 1997, the Company commenced shipping its advanced CMOS Fast
Ethenet transceiver chips that provide high integration solutions for the
adapter, repeater, switch and card bus markets, and a ATM mux/demux chips for
the ATM multiplexer and switch markets. These products are in the early stages
of production and test results may vary more than for products in later stages
of production. The Company commenced shipping these units to its customers with
their approval prior to completion of qualification. Management has made
estimates on future returns of these products and provided necessary reserves.
These estimates could change and the actual return rates could be higher. Should
the Company not complete the qualification process on a timely basis, there is
no assurance that customers will continue to purchase and utilize
pre-qualification units. There can be no assurance that production yields will
meet management projections or that the performance of these products will meet
actual specifications. Additionally, functionality and demand for such products
may not meet the Company's or customers expectations. In addition, the demand
and pricing for such products may decline as competition and availability
increase, and more advanced products are introduced.
<PAGE>
The Company's future success is highly dependent upon the timely completion
and introduction and qualification of new products at competitive
price/performance levels. The failure of the Company to timely complete and
introduce new products at competitive price/performance levels could materially
and adversely affect the Company's operating results. New products are generally
incorporated into a customer's product or system at the design stage. However,
design wins, which can often require significant expenditures by the Company,
may precede the generation of volume sales, if any, by a year or more. No
assurance can be given that the Company will achieve design wins or that any
design win will result in significant future revenues.
In February 1996, the Company purchased a fully functional wafer
fabrication facility and product design center located in Australia. The Company
receives a significant amount of its wafer requirements for its logic and memory
products from this facility. Any disruption of the Company's wafer fab facility
or the Company's inability to keep the production of wafers at a high level due
to technical factors or lack of customer demand could have a materially adverse
impact on the Company's operations.
The process technology for the fabrication of the Company's wafers at this
facility is highly complex and sensitive to dust and other contaminants.
Although the fabrication process is highly controlled, the equipment may not
perform flawlessly. Minute impurities, difficulties in the production process or
defects in the masks can cause a substantial percentage of the wafers to be
rejected or individual die on each wafer to be nonfunctional. Accordingly, any
failure by the Company to achieve acceptable product yields, could have a
material and adverse effect on the Company's operating results.
Raw materials essential to the Company's wafer fabrication business are
generally available from multiple sources and the Company has thus far not
experienced production problems or delays due to shortages in materials or
components. There can be no assurance, however, that future shortages will not
occur, any such shortages could have a material adverse effect on the Company's
business, financial condition or results of operations.
Government regulations impose various environmental controls on the
storage, use and disposal of chemicals and gases used in semiconductor
processing. Although the Company strives to conform the activities of its
manufacturing facilities to applicable environmental regulations, there can be
no assurance that the Company will not incur unanticipated future costs based on
inadvertent violations of such regulations or on the implementation of more
stringent regulations in the future.
Additionally, a substantial amount of the wafers for the Company's
semiconductor products are fabricated by Seiko Instruments Inc. ("Seiko"), Ricoh
Corporation ("Ricoh"), and Taiwan Semiconductor Manufacturing Company Ltd.
("TSMC"). The Company's reliance on its suppliers to fabricate its wafers at
their production facilities in Japan and Taiwan involves significant risks,
including reduced control over delivery schedules, potential lack of adequate
capacity, technical difficulties and events limiting production, such as fires
or other damage to production facilities. The Company has from time to time
experienced significant delays in receiving fabricated wafers from these
suppliers, and there can be no assurance that the Company will not experience
similar or more severe delays from its suppliers in the future. Any inability or
unwillingness of the Company's fabrication providers to provide adequate
quantities of finished wafers to meet the Company's needs could delay shipments
and have a material adverse effect on the Company's operating results. The
Company's reliance on third-party wafer fabrication suppliers also increases the
length of the development cycle for the Company's products, which may provide
time to market advantages to competitors that have in-house fabrication
capacity. The Company also depends upon its fabrication suppliers to participate
in process improvement efforts, such as the transition to finer geometries, and
any inability or unwillingness of such suppliers to do so could adversely affect
the Company's development and introduction of new products. Competitors having
their own wafer fabrication facilities, or access to suppliers having such
facilities, using superior process technologies at the same geometries or
manufacturing products at smaller geometries, could manufacture and sell
competitive, higher performance products at a lower price. The introduction of
such products by competitors could materially and adversely affect the Company's
operating results.
<PAGE>
The Company relies on overseas subcontractors for the assembly and testing
of its finished products. Any significant disruption in adequate supplies from,
or degradation in the quality of components or services supplied by, these
subcontractors, or any other circumstance that would require the Company to
qualify alternative sources of supply, could delay shipment and result in the
loss of customers, limitations or reductions in the Company's revenues, and
other adverse effects on the Company's operating results.
The Company purchases a significant amount of its semiconductor wafers and
substantially all of its assembly services from foreign suppliers. In addition,
sales outside of North America accounted for approximately 39% of the Company's
net revenues in the third quarter of fiscal 1997 as compared to 36% in the third
quarter of fiscal 1996. Sales outside of North America for the first nine months
of fiscal 1997 were 44% of net revenues as compared to 39% for the first nine
months of fiscal 1996. As a result, the Company's business is subject to the
risks generally associated with doing business abroad, such as foreign
governmental regulations, reduced protection for intellectual property rights,
political unrest, disruptions or delays and shipments and changes in economic
conditions in countries in which the Company's manufacturing and test assembly
sources are located. The Company's purchases of wafers from Seiko Instruments
Inc. are denominated in Japanese yen. Although the Company has from time to time
engaged in hedging activities to mitigate exchange rate risks, there can be no
assurance that the Company will not be materially adversely affected by a
decline in exchange rate.
The semiconductor industry is characterized by substantial litigation
regarding patent and other intellectual property rights. There can be no
assurance that third parties will not assert claims against the Company that
result in litigation. Any such litigation could result in significant expense
and divert the Company's attention from other matters. If any of the Company's
products were found to infringe any third party patent, and such patent were
determined to be valid, the third party would be entitled to injunctive relief,
which would prevent the Company from selling any such infringing products. In
addition, the Company could suffer significant monetary damages, which could
include treble damages for any infringement that is determined to be willful.
The Company's future success will depend to a large extent on the continued
contributions of key employees, who would be difficult to replace. The future
success of the Company also will depend on its ability to attract and retain
qualified marketing, technical and management personnel, particularly highly
skilled design, process and test engineers, for whom competition is intense. The
loss of or failure to attract and retain any such persons could have a material
adverse effect on the Company's business. To manage recent and potential future
growth effectively, the Company will need to continue to implement and improve
its operational, financial and management information systems and to hire,
train, motivate and manage its employees. There can be no assurance that the
Company will be able effectively to achieve growth or manage any such growth,
and failure to do so could have a material adverse effect on the Company's
operating results.
A relatively small number of customers have accounted for a significant
portion of the Company's revenue in the past. Loss of one or more of the
Company's current customers could materially and adversely affect the Company's
business, operating results and financial condition. In addition, the Company
has experienced and may continue to experience lower margins on sales to
significant customers as a result of volume pricing arrangements.
The Company markets and distributes its products primarily through
manufacturers' representatives and independent distributors. Domestic
distributors accounted for approximately 18% of the Company's net revenues
during the third quarter of fiscal 1997 and 25% in the third quarter of fiscal
1996. Domestic distributors accounted for approximately 20% of the Company's net
revenues during the first nine months of fiscal 1997 and 27% of net revenues
during the first nine months of fiscal 1996. The Company's distributors
typically offer competing products. The distribution channels have been
characterized by rapid change, including consolidations and financial
difficulties. The loss of one or more manufacturers' representatives or
distributors, or the decision by one or more distributors to reduce the number
of the Company's products offered by such distributor or to carry the product
<PAGE>
lines of the Company's competitors, could have a material adverse effect on the
Company's operating results.
The semiconductor industry has historically been cyclical and subject to
significant economic downturns at various times and has been characterized by
diminished product demand, accelerated erosion of ASPs and over capacity. In
addition, the end-markets for systems that incorporate the Company's products
are characterized by rapidly changing technology and evolving industry
standards. The Company may experience substantial period-to-period fluctuations
in future operating results due to general semiconductor industry conditions,
overall economic conditions or other factors.
The Company's earnings and stock price have been, and may be subject to
significant volatility, particularly on a quarterly basis. Any shortfall in
revenue, gross margins or earnings from expected levels could have an immediate
and significant adverse effect on the trading price of the Company's stock in
any given period. The Company may not learn of, or be able to confirm revenue,
gross margin or earnings shortfalls until late in the quarter, or following the
end of the quarter, because a significant portion of the Company's revenue in a
quarter typically is shipped in the last few weeks of that quarter. In addition,
future announcements concerning the Company or its competitors, including
technological innovations, new product introductions, governmental regulations,
litigation, or changes in earnings estimates by analysts, may cause the market
price of the Company's stock to fluctuate substantially. Stock prices for many
technology companies fluctuate widely for reasons that may be unrelated to
operating results, such as general economic, political and market conditions.
The Company's stock price is also subject to potentially large volatility due to
the very low trading volumes of the Company's stock on most days since the
initial public offering of the Company's stock on November 17, 1994. In
addition, this low trading volume may continue and could affect the ability of
shareholders to sell their shares.
Liquidity and Capital Resources
In November 1996, the Company negotiated a private placement of unsecured,
convertible promissory notes in the principal amount of $5.0 million, of QSA.
The Company received $3.0 million of the total financing in December 1996. The
Company decided not to sell, and one of the investors agreed not to buy $2.0
million of the notes. The $3.0 million of notes issued by the Company were
converted into 439,758 shares of the Company's common stock. In May 1997, the
company completed a private placement of 108,000 units, each consisting of 10
shares of common stock and a one-year warrant to purchase an additional share of
common stock resulting in total proceeds of $9.2 million. The Company intends to
use the proceeds for payment on the debt incurred in connection with the
acquisition of certain assets of AWAM, general corporate purposes and working
capital.
During the first nine months ended June 30, 1997 the Company used $1.5
million in cash from operating activities compared to $1.7 million of cash
provided from operations during the first nine months of fiscal 1996. The use of
cash in operating activities for the first nine months of fiscal 1997 were
mainly due to the increase in operating assets and liabilities including
increases in inventory, accounts receivable and deferred revenue due to the
growth of the Company. Cash used in investing activities during the first nine
months of fiscal 1997 totaled $4.9 million compared to $4.4 million in the first
nine months of fiscal 1996. The use of cash in the first nine months of fiscal
1997 was due to the purchase of equipment, mainly for the wafer fab facility,
and increase in short-term investments. The use of cash in first nine months of
fiscal 1996 was due to the acquisition of the wafer fab facility and related
equipment, offset by the proceeds from the sale of short-term investments.
Proceeds provided by financing activities of $11.6 million for the first nine
months of 1997 were primarily from the receipt of $9.0 million from the
completion of the private placement, net of issuance costs, and issuance of $2.9
million in notes payable which were subsequently converted to common stock. See
Note 4 and 6 of Notes to Condensed Consolidated Financial Statements. Financing
activities for the first nine months of fiscal 1996 used cash of $7,000
primarily due to the payment on long-term debt and offset by the issuance of
stock.
<PAGE>
On March 28, 1996, the Company entered into a leasing agreement with
Kanematsu USA Inc., an affiliate of Kanematsu Semiconductor Corporation, a
shareholder of the Company, to finance up to $8.2 million at a rate of 8.5% of
wafer fabrication equipment for installation at QSA. In April 1997, Kanematsu
agreed to allow the Company to borrow an additional $2.3 million at 9.25%. As of
June 30, 1997, the Company had approximately $6 million of equipment leases
outstanding under the agreement.
The Company believes that current available cash, short-term investments,
cash generated from operations and credit arrangements will be sufficient to
finance the Company's anticipated operations and capital equipment requirements
through fiscal 1997. However, there can be no assurance that events in the
future will not require the Company to seek additional capital or, if so
required, that adequate capital will be available to the Company.
<PAGE>
PART II OTHER INFORMATION
Item 1. Not Applicable
Item 2. Changes in Securities
In November 1996, the Company negotiated the private placement for cash of
unsecured convertible promissory notes in the principal amount of $5.0 million
of QSA. Needham & Company received a 1% placement fee upon completion of the
transaction. The notes were convertible at the option of the investors of the
Company into either 732,931 shares of the Company's common stock or 732,931
shares of non-voting Series B Preference shares of QSA. The Company received
$3.0 million of the total financing as of December 31, 1996 and converted the
notes issued for such amount into 439,758 shares of the Company's common stock.
The Company decided not to sell, and one of the investors agreed not to buy $2
million of the notes. The Company has relied on the private placement exemption
provided by Section 4(2) of the Securities Act of 1933, as amended, with respect
to placement of the notes and the issuance of shares of unregistered common
stock of the Company underlying the convertible notes.
In May 1997, the Company completed a private placement (the "Private
Placement") of 108,000 units, each consisting of ten (10) shares of the
Company's Common Stock and a one-year warrant to purchase one (1) additional
share of the Company's Common Stock for $8.50 per share. The units were priced
at $85.00 per unit for a total of $9.2 million in cash. Needham & Company, Inc.
received a placement fee of $60,000 for services rendered in connection with the
Private Placement. The Company relied on Rule 506 of Regulation D under the
Securities Act of 1933, as amended (the "Act"), which, among other things,
provides an exemption from the registration requirements of the Act for sales to
accredited investors (as defined by Rule 501(a) of Regulation D under the Act).
Under the terms of the Private Placement, the Company agreed to file a
Registration Statement on Form S-3 (the "Form S-3") within thirty days of the
closing of the transaction, to cover the shares of the Company's Common Stock
that were delivered to the investors at the closing and that are issuable upon
exercise of the warrants. The Form S-3 was filed on June 27, 1997 and was
declared effective on July 11, 1997.
Item 3, 4 and 5 Not appicable
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
No. 11.1 - Statement of Computation of Earnings Per Share
(b) Reports on Form 8-K
On June 12, 1997, the Company filed a report on Form 8-K,
reporting under Item 5 thereof, the Private Placement.
<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.
Quality Semiconductor, Inc.
(Registrant)
Date: July 25,1997 By: /s/ R. Paul Gupta
R. Paul Gupta
Chief Executive Officer
Date: July 25, 1997 By: /s/ John P. Goldsberry
-----------------------
John P. Goldsberry
Chief Financial Officer
Chief Accounting Officer
<PAGE>
Exhibit 11.1
QUALITY SEMICONDUCTOR, INC.
STATEMENT OF COMPUTATION OF EARNINGS (LOSS) PER SHARE
(In thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three months ended Nine months ended
June 30, June 30,
------------------------------ ------------ --- -------------
1997 1996 1997 1996
------------- ------------ ------------ -------------
<S> <C> <C> <C> <C>
Net income (loss) $887 ($1,783) $1,390 ($459)
============= ============ ============ =============
Computation of common and common
equivalents
shares outstanding
Common Stock 6,461 5,494 6,041 5,518
Options and warrants 635 591 -
-
------------- ------------ ------------ -------------
Shares used in computing per share amounts 7,096 5,494 6,632 5,518
============= ============ ============ =============
Net income (loss) per share $0.13 ($0.32) $0.21 ($0.08)
============= ============ ============ =============
- ----------
Fully diluted computation not presented since such amount differs by less than
3% of the net income per share amount shown above.
</TABLE>
<PAGE>
Exhibit 27.1
QUALITY SEMICONDUCTOR, INC.
Financial Data Schedule
(In thousands, except per share data)
(Unaudited)
Fiscal Year End September 30, 1997
Period Beginning October 1, 1996
Period Ending June 30, 1997
Cash and cash items 10,173
Marketable securities 4,267
Notes and accounts receivable - trade 14,839
Allowances for doubtful accounts (136)
Inventory 15,671
Capital current assets 48,562
Property, plant and equipment 35,653
Accumulated depreciation (15,011)
Total assets 71,686
Total current liabilities 20,992
Bonds, mortgages and similar debt -
Preferred stock - mandatory redemption 7,232
Preferred Stock - non-mandatory redemption -
Common Stock 7
Other Stockholders' Equity 44,202
Total liabilities and stockholders' equity 71,686
Net sales of tangible products 42,189
Total revenue 42,189
Cost of tangible goods sold 24,414
<PAGE>
Total costs and expenses applicable to sales and revenue 24,414
Other costs and expenses 15,369
Provision for doubtful accounts and notes 10
Interest and amortization of debt discount (268)
Income before taxes 2,138
Income tax expense 748
Income/loss continuing operations 1,390
Discontinued operations 0
Extraordinary items 0
Cumulative effect-changes in accounting principles 0
Net income or loss 1,390
Earnings per share - primary 0.21
Earnings per share - fully diluted 0.21
