<PAGE>
SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549
FORM 10-Q
(Mark one)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarter ended March 31, 1999
[_] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
Commission file number 0-19856
XIRCOM, INC.
2300 Corporate Center Drive
Thousand Oaks, California 91320
Telephone: (805) 376-9300
California (State of incorporation)
95-4221884 (IRS Employer Identification No.)
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 [_]
There were 24,038,643 shares of the Registrant's $.001 par value Common Stock
outstanding as of May 5, 1999.
1 XIRCOM, INC.
<PAGE>
Xircom, Inc.
TABLE OF CONTENTS
Page in Form 10-Q
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets 3
Condensed Consolidated Income Statements 4
Condensed Consolidated Statements of Cash Flows 5
Notes to Condensed Consolidated Financial Statements 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 7-13
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 14
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 14
ITEM 2. CHANGES IN SECURITIES 14
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 14
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 14
ITEM 5. OTHER ITEMS 14
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 14
SIGNATURES 14
2 XIRCOM, INC.
<PAGE>
Xircom, Inc.
PART I. FINANCIAL INFORMATION
ITEM I. FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
(Unaudited)
March 31 September 30
(In thousands) 1999 1998
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $117,162 $105,796
Accounts receivable, net 31,405 29,280
Income tax receivable 285 285
Inventories 16,220 16,121
Deferred income taxes 11,659 11,659
Other current assets 5,748 4,874
- -----------------------------------------------------------------------------------------------------------------------------
Total current assets 182,479 168,015
Property and equipment, net 31,096 26,730
Other assets 4,627 479
- -----------------------------------------------------------------------------------------------------------------------------
Total assets $218,202 $195,224
- -----------------------------------------------------------------------------------------------------------------------------
Current liabilities:
Accounts payable $ 13,210 $ 17,269
Accrued liabilities 37,474 28,813
Accrued income taxes 4,384 3,308
- -----------------------------------------------------------------------------------------------------------------------------
Total current liabilities 55,068 49,390
Deferred income taxes 9,116 9,116
Shareholders' equity:
Common stock 24 23
Paid-in capital 142,558 145,862
Retained earnings (accumulated deficit) 11,436 (9,167)
- -----------------------------------------------------------------------------------------------------------------------------
Total shareholders' equity 154,018 136,718
- -----------------------------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $218,202 $195,224
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
See notes to Condensed Consolidated Financial Statements
3 XIRCOM, INC.
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Xircom, Inc.
CONDENSED CONSOLIDATED INCOME STATEMENTS (UNAUDITED)
<TABLE>
<CAPTION>
Three months ended Six months ended
(In thousands, except per share information) March 31 March 31
- ------------------------------------------------------------------------------------------------------------------------
1999 1998 1999 1998
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net sales $97,684 $64,134 $193,706 $116,679
Cost of sales 55,371 42,505 111,831 76,922
- ------------------------------------------------------------------------------------------------------------------------
Gross profit 42,313 21,629 81,875 39,757
Operating expenses:
Research and development 5,202 3,876 10,392 7,415
Sales and marketing 19,606 11,518 37,888 21,795
General and administrative 3,062 2,348 5,953 4,419
- ------------------------------------------------------------------------------------------------------------------------
Total operating expenses 27,870 17,742 54,233 33,629
- ------------------------------------------------------------------------------------------------------------------------
Operating income 14,443 3,887 27,642 6,128
Other income, net 597 799 973 2,023
- ------------------------------------------------------------------------------------------------------------------------
Income before income taxes 15,040 4,686 28,615 8,151
Provision for income taxes 4,211 1,409 8,012 2,444
- ------------------------------------------------------------------------------------------------------------------------
Net income $10,829 $ 3,277 $20,603 $ 5,707
- ------------------------------------------------------------------------------------------------------------------------
Basic earnings per share $ .45 $ .14 $ .87 $ .25
Diluted earnings per share $ .42 $ .14 $ .81 $ .25
- ------------------------------------------------------------------------------------------------------------------------
</TABLE>
See notes to Condensed Consolidated Financial Statements
4 XIRCOM, INC.
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Xircom, Inc.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
Six Months Ended March 31 1999 1998
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Operating activities:
Net income $ 20,603 $ 5,707
Adjustments to derive cash flows from operating activities:
Depreciation and amortization 4,719 3,570
Foreign currency exchange gain (258) (484)
Changes in assets and liabilities:
Accounts receivable (2,125) (16,771)
Inventories (99) 5,752
Other current assets (874) 3,595
Accounts payable and accrued liabilities 4,860 5,361
Income taxes payable 6,407 2,286
- --------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 33,233 9,016
- --------------------------------------------------------------------------------------------------------------------------
Investing activities:
Purchases of property and equipment (8,926) (10,272)
Increase in other assets (4,307) (54)
- --------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (13,233) (10,326)
- --------------------------------------------------------------------------------------------------------------------------
Financing activities:
Proceeds from issuance of capital stock 11,141 811
Repurchase of capital stock (19,775) -
Repayment of debt obligations - (2,541)
- --------------------------------------------------------------------------------------------------------------------------
Net cash used in financing activities (8,634) (1,730)
- --------------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents 11,366 (3,040)
Cash and cash equivalents at beginning of period 105,796 75,109
- --------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $117,162 $ 72,069
- --------------------------------------------------------------------------------------------------------------------------
Supplemental cash flow disclosures:
Cash paid for income taxes $ 1,424 $ -
Non-cash transactions-tax benefit related to employee stock options $ 5,331 $ 18
- --------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Condensed Consolidated Financial Statements
5 XIRCOM, INC.
<PAGE>
Xircom, Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Basis of presentation
The accompanying condensed consolidated financial statements have been prepared
by the Company without audit (except for the balance sheet information as of
September 30, 1998, which was derived from audited consolidated financial
statements) pursuant to Securities and Exchange Commission regulations. In the
opinion of management, the financial statements reflect all adjustments
(consisting only of normal recurring adjustments) necessary to present fairly
the consolidated financial position at March 31, 1999, the consolidated
statements of income for the three- and six-month periods ended March 31, 1999
and 1998, and cash flows for the six-month periods ended March 31, 1999 and
1998, in accordance with generally accepted accounting principles. The
accompanying financial statements are condensed and do not include footnotes and
certain financial presentations normally required under generally accepted
accounting principles and, therefore, should be read in conjunction with the
audited financial statements included in the Company's 1998 annual report on
Form 10-K. The results of operations for the three- and six-month periods ended
March 31, 1999 are not necessarily indicative of the results to be expected for
the entire fiscal year.
Cash and cash equivalents
All highly liquid investments with a maturity of three months or less at the
date of purchase are considered to be cash equivalents and are carried at cost
plus accrued interest. Beginning in fiscal 1999, the Company changed its
investment strategy and began investing its excess cash balances primarily in
tax preferred investment vehicles.
Other assets
Other assets in 1999 consisted primarily of contingent licensing rights for
certain intellectual property.
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market and
consist of the following:
<TABLE>
<CAPTION>
March 31 September 30
(In thousands) 1999 1998
- --------------------------------------------------------------------------------
<S> <C> <C>
Finished goods $ 6,575 $ 4,165
Subassemblies 1,726 1,092
Work-in-process 2,380 5,383
Component parts 5,539 5,481
- --------------------------------------------------------------------------------
$16,220 $16,121
- --------------------------------------------------------------------------------
</TABLE>
Common stock
On February 18, 1999, Intel Corporation exercised its warrant to purchase
additional shares of Xircom common stock. Under the terms of the warrant
agreement, Intel elected to receive 514,314 shares at no additional cost in lieu
of purchasing 1,509,903 shares at an exercise price of $27.01. Concurrent with
the warrant exercise, Xircom repurchased all 514,314 shares of common stock
issued to Intel for a total price of $19.8 million, or $38.45 per share. During
the six-month period ended March 31, 1999, the Company received cash of $11.1
million from the issuance of capital stock through its stock option and employee
stock purchase plans.
Earnings per share
Basic earnings per share is calculated using the weighted average common shares
outstanding for the period, and excludes dilutive securities. Diluted earnings
per share reflects the dilution to earnings that would occur if stock options or
other dilutive securities resulted in the issuance of common stock. The weighted
average number of shares for basic and diluted earnings per share were as
follows:
<TABLE>
<CAPTION>
(In thousands)
Three Months Ended March 31 1999 1998
- --------------------------------------------------------------------------------
<S> <C> <C>
Weighted average number of shares-basic 23,918 22,759
Effect of dilutive securities:
Employee stock options 1,455 165
Warrant 221 -
- --------------------------------------------------------------------------------
Weighted average number of shares-diluted 25,594 22,924
- --------------------------------------------------------------------------------
</TABLE>
6 XIRCOM, INC.
<PAGE>
Xircom, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Quarterly Report contains trend analysis and other forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
Actual results could differ materially from those projected in the trend
analysis and other forward-looking statements contained herein, as a result of
the risk factors set forth below and elsewhere in this report.
Results of Operations
- ---------------------
The following table sets forth the income statements as a percentage of net
sales:
<TABLE>
<CAPTION>
Three months ended Six months ended
March 31 March 31
1999 1998 1999 1998
- --------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 100.0%
Cost of sales 56.7% 66.3% 57.7% 65.9%
- --------------------------------------------------------------------------------
Gross profit 43.3% 33.7% 42.3% 34.1%
Operating expenses:
Research and development 5.3% 6.0% 5.4% 6.4%
Sales and marketing 20.1% 18.0% 19.5% 18.7%
General and administrative 3.1% 3.6% 3.1% 3.7%
- --------------------------------------------------------------------------------
28.5% 27.6% 28.0% 28.8%
- --------------------------------------------------------------------------------
Operating income 14.8% 6.1% 14.3% 5.3%
Other income, net 0.6% 1.2% 0.5% 1.7%
- --------------------------------------------------------------------------------
Income before income taxes 15.4% 7.3% 14.8% 7.0%
Provision for income taxes 4.3% 2.2% 4.2% 2.1%
- --------------------------------------------------------------------------------
Net income 11.1% 5.1% 10.6% 4.9%
- --------------------------------------------------------------------------------
</TABLE>
Net sales
Net sales of LAN adapters, modems and multifunction LAN and modem cards ("Combo
cards") for the three- and six-month periods ended March 31, 1999 increased 52%
and 66%, respectively, from the corresponding prior-year periods. The increase
was primarily due to growth in overall market demand for local and wide area
network connectivity products and an increase in unit sales of the Company's
adapter products by its domestic and international distribution customers (the
"branded business") and original equipment manufacturer ("OEM") customers.
Total unit shipments for the three- and six-month periods ended March 31, 1999
increased 37% and 61%, respectively, from the corresponding prior year periods.
Average selling prices were higher during the second quarter of fiscal 1999 than
the corresponding prior year quarter primarily due to an increased shipment mix
of Combo cards which generally have higher selling prices than LAN adapters and
modems, and higher average selling prices of the Company's RealPort (TM)
Integrated PC Card family of products introduced during the third quarter of
fiscal 1998. During the second quarter of fiscal 1999, net sales of the
Company's RealPort Integrated PC Card products accounted for more than 50% of
total net sales.
International sales. Total international sales (shipments to customers located
outside the U.S.) were 59% and 58% of total net sales for the three-and six-
month periods ended March 31, 1999, as compared to 56% and 54% for the
comparable prior year periods. During the second quarter of fiscal 1999 PC Card
sales in Europe grew at a faster rate than in the Americas and Asia-Pacific
regions.
7 XIRCOM, INC.
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Xircom, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Gross profit
Gross profit consists of net sales less cost of sales, which includes product
costs and other costs of sales. Product costs include materials, labor and
manufacturing overhead. Other costs of sales include royalty payments to
licensors of software incorporated into the Company's products, warranty expense
and provisions for excess and obsolete inventory. Gross profit margins for the
three- and six-month periods ended March 31, 1999 were 43.3% and 42.3% compared
to 33.7% and 34.1% for the comparable prior-year periods. The increase in gross
profit as a percentage of net sales was primarily attributable to higher gross
margins of the Company's RealPort Integrated PC Card family of products as
compared to PC Card products. In addition, the mix of product shipments during
the 1999 periods was more heavily weighted toward higher margin LAN adapter and
Combo cards as compared to the prior year periods.
Operating expenses
Research and development expenses for the three- and six-month periods ended
March 31, 1999 increased by 34% and 40%, respectively, in absolute dollars but
decreased as a percentage of sales as compared to the corresponding prior-year
periods. These increased expenses were due to additional staffing to support:
. feature enhancement of current products;
. cost reduction of current products;
. continued development of higher-speed and higher bandwidth Integrated PC Cards
and PC Cards;
. development of communications adapters in the Compact Flash form factor;
. support for the Company's OEM customers; and,
. development of Mini-PCI adapters.
Research and development expenses decreased as a percentage of sales for the
fiscal 1999 periods, as compared to the corresponding prior-year periods,
primarily due to the increase in sales. Research and development expenses are
expected to continue to increase in absolute dollars and as a percentage of
sales due to planned expenditures on product enhancements and new product
introductions.
Sales and marketing expenses for the three- and six-month periods ended March
31, 1999 increased by 70% and 74%, respectively, compared to the corresponding
prior-year periods. The increase was primarily due to additional headcount and
sales and marketing activities to support increased brand awareness and
expanding markets, advertising, programs to increase end user demand, and
increased OEM sales levels. Sales and marketing expenses are expected to
increase through the remainder of fiscal 1999 and may vary as a percentage of
sales as further market expansion activities are pursued.
General and administrative expenses for the three- and six-month periods ended
March 31, 1999 increased by 30% and 35%, respectively, compared to the
corresponding prior-year periods. The increase was to support growth in the
organization and, to a lesser extent, continued noncapitalizable expenditures on
information systems hardware and software, including Year 2000 upgrades. See
Risk Factors for a more detailed discussion of Year 2000 issues. These expenses
decreased as a percentage of sales as compared to the corresponding prior-year
period primarily due to increased levels of sales. General and administrative
expenses are expected to continue to increase for the remainder of fiscal 1999
and may vary as a percentage of sales.
Other income, net
Other income, net includes interest income from the investment of available cash
and early payment discounts earned by the Company, offset by early payment
discounts taken by customers and foreign currency transaction gains and losses.
The decrease in net other income for the fiscal 1999 periods as compared to the
corresponding prior-year periods was primarily due to an increase in early
payment discounts taken by customers offset by a slight increase in interest
income. The increase in interest income was due to increased cash balances
offset partially by lower interest rates resulting from the Company's use of tax
preferred investments.
Income taxes
The Company's effective income tax rate for the three- and six-month periods
ended March 31, 1999 was 28% as compared to 30% for the comparable prior-year
periods. The difference between the effective tax rates and the 35% federal
statutory tax rate was due primarily to benefits from the tax holiday status of
the Company's operations in
8 XIRCOM, INC.
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Xircom, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Malaysia. In addition, during the December 1998 quarter the Company began
investing in tax preferred cash equivalents, thereby further reducing its
effective tax rate.
Risk Factors
- ------------
Competition. The market for notebook PC Card adapters has grown rapidly since
the Personal Computer Memory Card International Association (PCMCIA) introduced
a standard form factor for PC Card LAN adapters in 1993. Companies in the PC,
desktop LAN adapter and modem industries with greater name recognition and
greater financial resources than us, have a significant presence in the PC Card
adapter market. As a result, we have faced increased competition in our
industry. Actions by our competitors which continue to influence this
competitive environment include price reductions, new product introductions,
promotional efforts, and changes in the level of channel inventory. We expect
competition to remain intense and as a result, we may lose some of our business
to our competitors. Further, we believe that the market for PC Card LAN
adapters, modems and Combo cards will continue to be price competitive and thus
could continue to result in lower selling prices, lower gross profit margins and
reduced profitability levels than earned from such products in the past.
Manufacturing. We believe that our in-house manufacturing facility continues to
operate at a greater efficiency level than during prior years. This
manufacturing facility, located in Malaysia, produces all of our products. While
we expect the manufacturing facility and increased production volume to continue
to have a positive impact on cost reduction efforts, we may be unable to achieve
significant additional efficiencies from this facility. If we are unable to
achieve additional cost reductions through increased production or manufacturing
efficiency we may be unable to keep pace with competitors' cost or price
reductions to an extent necessary to maintain or increase our market share
without adversely affecting gross profit margins. Because all of our products
are being manufactured at our own facility, if we are unable to accurately
forecast or react to changes in product demand, interruptions in the supply of
products could occur which in turn could adversely affect future sales. We also
face risks associated with operations overseas, including management of a
distant and remote manufacturing facility, currency fluctuations and potential
instability in the local country, particularly in light of recent economic and
political uncertainty in Malaysia and in Asia generally.
International markets. The majority of our international sales are denominated
in U.S. dollars. Further, these sales may be subject to government controls and
other risks such as:
. federal restrictions on export;
. export licenses;
. trade restrictions;
. changes in tariff and freight rates;
. currency fluctuations; and,
. political instability.
As a result of recent and potential factors such as currency fluctuations and
economic instability impacting international markets, we could encounter
difficulties in accessing new and existing international markets or experience
increased credit risks. Such credit risks could include customer insolvencies or
other impairments of customers' ability to repay amounts owed to us.
We use certain strategies to limit the impact of foreign currency fluctuations
on our Asian distributors. In doing so, we may assume greater foreign currency
risk than in the past. Continued instability or other adverse changes in local
economies could affect our future operations. In September 1998, the Malaysian
government fixed the exchange rate of the Malaysian currency at 3.8 ringgits per
U.S. dollar. We believe that the fixing, or any potential reversion to a
floating exchange rate, will not have a significant impact on our results of
operations.
Several European countries have adopted a Single European Currency (the "Euro")
as of January 1, 1999 with a transition period continuing through January 1,
2002. We have reviewed the impact the Euro may have on our internal systems and
on our competitive environment. We believe our internal systems will be Euro
capable without material modification cost. Further, we do not expect the
transition to the Euro currency to have a material
9 XIRCOM, INC.
<PAGE>
Xircom, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
adverse impact on our financial condition or results of operations.
Product mix. Revenues derived from our Combo and modem-only PC Cards typically
have lower gross profit margins than LAN PC Cards. In addition, shipments to our
OEM customers generally result in lower average selling prices and gross profit
margins than sales made through our distribution partners. Increases in the
proportion of modem-only and Combo PC Cards and in shipments to OEMs tend to
negatively impact overall gross margins and may offset any improvements from
manufacturing and design efficiencies. In addition, the increased percentage of
revenue from OEM customers during fiscal 1999 as compared to fiscal 1998 has
resulted in an increased concentration in our customer base. With this increased
customer concentration, we have increased our dependency on a more limited
number of customers at lower average selling prices and gross profit margins
than sales made through our distribution partners. These trends may continue as
we anticipate an increased mix of OEM revenues as a percentage of sales.
Backlog. We generally ship products within one to four weeks after receipt of
orders. Therefore, our sales backlog is typically minimal. Accordingly, our
expectations of future net sales are based largely on our own estimate of future
demand and not on firm customer orders. If our net sales do not meet
expectations, profitability would be adversely affected, as we may not be able
to reduce expenses at the same pace in the near term.
Channel inventory. Our net sales may be affected by our distributor and OEM
customers' decisions as to the quantity of our products to be maintained in
their inventories. Due to steps we took beginning in the fourth quarter of
fiscal 1997, our distributors carry relatively low quantities of inventory
compared to our competitors. In addition, beginning in the second quarter of
fiscal 1999, we took steps to reduce the levels of inventory maintained by our
OEM customers. These actions enable us to react more quickly to market changes.
However, we may also be more directly affected by changes in the market,
including the impact of any slowdown or rapid increase in end user demand.
Despite our efforts to reduce channel inventory exposure, distributors and OEM
customers may still choose to reduce their inventories below the already reduced
levels, which could cause a reduction in our net sales.
New product introductions. Our continued success is dependent on our ability to
continue to introduce new products offering advanced features, functionality and
solutions demanded by customers. We may not be able to continue to introduce new
products on time that are accepted by the market or that sell through to end
users in quantities sufficient to make the products viable for the long-term.
Sales of such new products may negatively impact sales of our existing products.
In addition, we may have difficulty establishing our products' presence in
markets where we do not currently have significant brand recognition.
Component availability. Because of frequent technology changes and rapid
industry growth, the cost and availability of components used to manufacture our
products may fluctuate. Because some components, including custom chipsets, are
available from only one supplier, they are subject to the risk of reduced
availability due to a number of factors, including:
. supplier manufacturing constraints;
. excess of demand versus supply;
. national political or economic changes; and,
. other risks not within our control.
Although we have not experienced any significant parts shortages over the past
year, many of these components require long-lead purchase orders thereby
limiting flexibility to change order quantities due to changes in demand. Any
supply source interruptions, limitations on availability, or inability to
develop alternative sources as needed could adversely affect our ability to
deliver products and, in turn, our future earnings.
Gross margin. In summary, gross profit margins are impacted by a number of
factors, including:
. sales growth rates;
. competitive pricing pressures;
. product sales mix;
. channel sales mix;
. frequency of product transitions;
10 XIRCOM, INC.
<PAGE>
Xircom, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
. component cost; and,
. manufacturing cost.
In addition, new products often have lower gross profit margins until market
acceptance when increased volumes may permit component cost reductions and
manufacturing efficiencies.
Technology shifts. Rapid technological change and short product life cycles
characterize the industry in which we operate. The industry includes competitors
with greater financial and technical resources than us. While we have
historically been successful in developing or integrating leading technology
into our products, ongoing investment in research and development is required
for us to maintain our technological position. We may need to increase the rate
of such investment depending on competitive factors. If networking capability is
included in extension modules to PCs or in the PC itself, a reduction in the
demand for add-on networking devices could result. Our operating results and
ability to retain our market share are also dependent on continued growth in the
underlying markets for notebook networking products, notebook computers, and the
notebook-to-network connection rate.
Intellectual property. Patents, copyrights, trademarks and other efforts we take
may not succeed in protecting our intellectual property, preventing duplication
of our technology or providing a competitive advantage. Patents issued to us may
not be upheld as valid if litigation over the patent were initiated. Because of
the rapid pace of technological change in the communications industry we believe
our success is likely to depend more upon continued innovation, technical
expertise, marketing skills and customer support and service rather than upon
legal protection of our proprietary rights. However, we will aggressively assert
our intellectual property rights when necessary.
With the proliferation of new products and rapidly changing technology in the PC
Card market, there is a significant volume of patents or similar intellectual
property rights held by third parties. Given the nature of our products and
development efforts, there are risks that claims associated with such patents or
intellectual property rights could be asserted by third parties. These risks
include the cost of licensing a given technology. If a claimant refuses to offer
such a license on terms acceptable to us, there is a risk of incurring a
substantial cost of litigation or settlement of such claims regardless of the
merits of the allegations. In the event of litigation, if we do not prevail we
may be required to pay significant damages and/or to cease sales and production
of infringing products and only make future sales of a noninfringing design.
We currently use software licensed from third parties in certain of our Combo,
modem-only and Token Ring products. Our operating results could be adversely
affected by a number of factors relating to this third-party software,
including:
. failure by a licensor to accurately develop, timely introduce, promote or
support the software;
. delays in shipment of our products;
. excess customer support costs or product returns experienced by us due to
errors in licensed software; or,
. termination of our relationship with such licensors.
Stock price. The market price of our common stock has been, and may continue to
be, subject to a high degree of volatility. Numerous factors relating to us or
our competitors may have a significant impact on the market price of our common
stock, including:
. general conditions in the networking and computer industries;
. announcements of quarterly operating results;
. acquisitions;
. product pricing;
. market growth forecasts; and,
. new products or technological innovations.
In addition, stock markets have experienced extreme price volatility and broad
market fluctuations in recent years. This volatility has had a substantial
effect on the market price of securities issued by many high technology
companies, including ours, in many cases for reasons unrelated to the operating
performance of the specific companies. Our common stock has experienced
volatility not
11 XIRCOM, INC.
<PAGE>
Xircom, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
necessarily related to announcements of our performance.
Year 2000. The Year 2000 issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Such computer
programs or hardware may have date-sensitive software or embedded chips that
always assume the century is "19". This could cause miscalculations or failure
in our information systems and/or manufacturing equipment. Such system
miscalculations or failure could cause disruptions of operations including,
among other things, a temporary inability to process transactions or engage in
normal business activities. Disruptions of our operations may also occur if key
suppliers or customers experience disruptions in their ability to purchase,
supply or transact with us due to Year 2000 issues. Our global operations rely
heavily on the infrastructures within the countries in which they do business.
The Year 2000 readiness within infrastructure suppliers (utilities, government
agencies, and shipping organizations) will be crucial to our ability to avoid
disruption of operations.
We have reviewed and tested our own products and believe they do not present any
Year 2000 issues. These products are used as accessories to systems which may
contain Year 2000 issues and we believe that any such Year 2000 issues in
systems are not to be attributed to our products.
We have completed our initial analysis of the major information systems that
could be significantly affected by the Year 2000 issue and have committed
personnel and resources to resolve potential issues. Based on the initial
analysis, we have determined that we would be required to modify or replace
certain portions of our internal hardware and software so that those systems
will properly use dates beyond December 31, 1999. We presently believe that the
Year 2000 issue can be mitigated with respect to our internal information
systems and manufacturing equipment with modifications or replacements of
certain existing software and hardware.
Our plan to resolve the Year 2000 issue involves four phases: assessment,
remediation, testing, and contingency planning. Our assessment plan for both
information technology ("IT") and non-IT systems is currently in process. We
have initiated a communications plan to create awareness, both internally and
externally, of the need to identify Year 2000 issues and the risks the issues
create. We collected and analyzed inventories of systems, equipment, and
processes from our global locations. Thus far, the assessment has indicated that
most of our significant IT systems are Year 2000 compliant. The assessment
indicated, however, that our customer interaction system could be affected. This
system was successfully replaced with a Year 2000 compliant system in May 1999.
We are 33% complete with the remediation phase with respect to our IT exposures
and expect to complete all software reprogramming or replacement no later than
September 30, 1999. All systems classified as "mission critical" were analyzed,
remediated, tested, and documented successfully by March 31, 1999.
We tested our manufacturing equipment and found no Year 2000 issues. We have
queried our significant suppliers regarding their Year 2000 readiness. To date,
we are not aware of any such supplier with a Year 2000 issue that would
materially affect our operating results. We have no means of ensuring that such
suppliers will be Year 2000 ready and, accordingly, we are planning to perform a
secondary evaluation by June 30, 1999 of our critical suppliers to obtain
further assurances about their readiness. We could be materially impacted if our
significant suppliers are unable to complete their Year 2000 resolution process
in a timely fashion. The ultimate effect on us of non-compliance by these
parties is not determinable.
We are using both internal and external resources to replace, test and implement
software and operating equipment needing Year 2000 modifications. The total cost
of the Year 2000 project is estimated at $1.4 million and is being funded by
cash flows from operations. To date, we have incurred approximately $1.1 million
($477,000 expensed and $652,000 capitalized for new software), related to all
phases of the Year 2000 project. Of the total remaining project costs, we
attribute approximately $105,000
12 XIRCOM, INC.
<PAGE>
Xircom, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
to the purchase of new software and hardware and expect to capitalize the cost.
We expect the remaining $183,000 to be expensed as incurred.
We are developing a contingency plan for organizing responses in case of
shutdown of certain of our critical applications due to Year 2000 issues. This
contingency plan involves, among other things, IT and non-IT systems and
external systems. We believe that the most likely worst case of a Year 2000-
related failure given our state of readiness today would be a temporary loss of
10% of our internal IT capability with no material impact on our ability to
conduct normal revenue-generating operations.
We are also subject to additional risk factors as identified in our Annual
Report to Shareholders and filing on Form 10-K for the year ended September 30,
1998.
Liquidity and Capital Resources
- -------------------------------
At March 31, 1999 we had $117.2 million in cash and cash equivalents. Our
operating activities provided cash of approximately $33.2 million in the six-
month period ended March 31, 1999, primarily as a result of income from
operations and increases in income taxes payable and accounts payable and other
accrued liabilities, partially offset by an increase in accounts receivable.
Income taxes payable and accounts payable and other accrued liabilities
increased primarily due to the timing of payment for income taxes and component
inventory purchases, respectively.
We used $13.2 million in cash in investing activities during the six-month
period ended March 31, 1999, primarily for capital expenditures and for securing
contingent rights to use certain intangible assets. The capital expenditures
were for the purchase of manufacturing equipment for use in our Penang, Malaysia
facility, equipment for increased headcount, and information systems hardware
and software. The intangible assets for which we secured contingent rights
consist of a license to use certain intellectual property. Our use of these
rights is contingent upon approval of transfer of rights by the court having
jurisdiction over the assets. We have no material fixed commitments and do not
expect an increase in the rate of capital expenditures in the normal course of
business during the remainder of fiscal 1999.
Our financing activities used $8.6 million in cash during the six-month period
ended March 31, 1999, primarily for the repurchase of capital stock offset by
the issuance of capital stock through our stock option and employee stock
purchase plans. On February 18, 1999, Intel Corporation exercised its warrant to
purchase additional shares of our common stock. Under the terms of the warrant
agreement, Intel elected to receive 514,314 shares at no additional cost in lieu
of purchasing 1,509,903 shares at an exercise price of $27.01. Concurrent with
the warrant exercise, we repurchased all 514,314 shares of common stock issued
to Intel for a total price of $19.8 million, or $38.45 per share. We generated
cash of $11.1 million from the issuance of capital stock through our stock
option and employee stock purchase plans.
We have a bank credit facility allowing borrowings up to $25.0 million. Loans
under the agreement are secured by all of our U.S.-based assets. We also have a
credit facility totaling $10.8 million, denominated in Malaysian ringgits, with
a bank in Malaysia. We had no borrowings outstanding and approximately $29
million in borrowings available under our credit facilities as of March 31,
1999.
We believe that cash on hand, borrowings available under our existing facilities
or from other financing sources and cash provided by operations will be
sufficient to support our working capital and capital expenditure requirements
for at least the next twelve months. However, we cannot assure that future cash
requirements to fund operations will not require us to seek additional capital
sooner than the twelve months, or that such additional capital will be available
when required on terms acceptable to us.
13 XIRCOM, INC.
<PAGE>
Xircom, Inc.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following discussion about our market risk disclosures involves forward-
looking statements. Actual results could differ materially from those projected
in the forward-looking statements.
Given the short-term nature of our portfolio of highly liquid cash equivalents,
and that we have no borrowings outstanding, we are not subject to significant
interest rate risk. We are exposed to market risk related to changes in interest
rates and foreign currency exchange rates and do not use derivative financial
instruments.
We manufacture our products in Malaysia and sell our products worldwide. Our
financial results, therefore, could be significantly impacted by factors such as
changes in foreign currency exchange rates and weak economic conditions in
foreign markets. Our operating results are exposed to the impact of weakening
economic conditions in the countries in which we sell our products. Since the
majority of our sales are denominated in U.S. dollars, our foreign operations
are net payers of currencies other than the U.S. dollar, particularly the
Malaysian ringgit and the Belgian franc. As such, our operating results may be
adversely affected by the impacts of a stronger Malaysian ringgit or Belgian
franc relative to the U.S. dollar. To mitigate the short-term effect of changes
in currency exchange rates on our foreign currency based expenses, we purchase
and hold Malaysian ringgits and Belgian francs in advance of the due date of the
underlying obligations.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER ITEMS
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 27 Financial Data Schedule
(b) Reports on Form 8-K
Pursuant to Item 5 (Other Events), we filed a Report on Form 8-K on February
18, 1999. The Report related to a press release issued by us on February 18,
1999 regarding our announcement that Intel Corporation exercised a warrant
to purchase additional shares of our common stock and our concurrent
repurchase of those shares. We filed a copy of the press release as an
exhibit to the Report.
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.
XIRCOM, INC.
----------------------------------
(Registrant)
Date: May 14, 1999 /s/ Dirk I. Gates
------------- ----------------------------------
Dirk I. Gates
Chairman of the Board, President and
Chief Executive Officer
Date: May 14, 1999 /s/ Steven F. DeGennaro
------------- ----------------------------------
Steven F. DeGennaro
Vice President, Finance and
Chief Financial Officer
14 XIRCOM, INC.
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM XIRCOM,
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