<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
QUARTERLY REPORT
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the Quarter Ended Commission File Number
December 31, 1997 0-20706
DATA RACE, INC.
(Exact name of registrant as specified in its charter)
Texas 74-2272363
(State of Incorporation) (I.R.S.Employer Identification No.)
12400 Network Boulevard
San Antonio, Texas 78249
Telephone (210) 263-2000
(Address, including zip code, and telephone number,
including area code, of registrant's principal executive offices)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock
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
----- -----
On February 5, 1997, there were 5,697,252 outstanding shares of Common Stock, no
par value.
1
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DATA RACE, INC.
INDEX TO FORM 10-Q
Page
Number
------
PART I. FINANCIAL INFORMATION
- ------------------------------
Item 1. Interim Condensed Financial Statements (Unaudited):
Condensed Balance Sheets as of December 31, 1997 and June 30, 1997...3
Condensed Statements of Operations for the Three Months
and Six Months Ended December 31, 1997 and 1996 .....................4
Condensed Statements of Cash Flows for the Six Months
Ended December 31, 1997 and 1996......................................5
Notes to Interim Condensed Financial Statements.......................6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................................10
PART II. OTHER INFORMATION
- ---------------------------
Item 1. Legal Proceedings....................................................13
Item 2. Changes in Securities................................................13
Item 3. Defaults Upon Senior Securities......................................14
Item 4. Submission of Matters to a Vote of Security
Holders..............................................................14
Item 5. Other Information....................................................14
Item 6. Exhibits and Reports on Form 8-K.....................................14
SIGNATURES...................................................................15
- ----------
2
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PART I. FINANCIAL INFORMATION
ITEM 1. INTERIM CONDENSED FINANCIAL STATEMENTS
- -----------------------------------------------
DATA RACE, INC.
CONDENSED BALANCE SHEETS
UNAUDITED
<TABLE>
<CAPTION>
AS OF
---------------------------------------------
DEC. 31, 1997 JUNE 30, 1997
--------------------- ---------------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
CASH AND CASH EQUIVALENTS....................................... $ 5,232,657 $ 4,535,768
ACCOUNTS RECEIVABLE, NET........................................ 666,402 1,879,656
INVENTORY....................................................... 881,631 1,056,999
PREPAID EXPENSES AND DEPOSITS................................... - 22,889
--------------------- ---------------------
TOTAL CURRENT ASSETS.......................................... 6,780,690 7,495,312
PROPERTY AND EQUIPMENT, NET....................................... 1,667,930 1,932,317
OTHER ASSETS, NET................................................. 42,389 42,689
--------------------- ---------------------
TOTAL ASSETS.................................................. $ 8,491,009 $ 9,470,318
---------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
ACCOUNTS PAYABLE................................................ $ 539,246 $ 912,522
ACCRUED EXPENSES................................................ 1,566,562 1,693,265
OTHER CURRENT LIABILITIES....................................... - 932
--------------------- ---------------------
TOTAL CURRENT LIABILITIES..................................... 2,105,808 2,606,719
COMMITMENTS AND CONTINGENCIES.....................................
SHAREHOLDERS' EQUITY:
SERIES A CONVERTIBLE PREFERRED STOCK............................ 754,970 3,079,447
SERIES C CONVERTIBLE PREFERRED STOCK............................ 4,616,724 -
COMMON STOCK.................................................... 29,341,514 26,680,686
ADDITIONAL PAID IN CAPITAL...................................... 1,882,303 1,882,303
RETAINED EARNINGS (DEFICIT)..................................... (30,210,310) (24,778,837)
--------------------- ---------------------
TOTAL SHAREHOLDERS' EQUITY.................................... 6,385,201 6,863,599
--------------------- ---------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY.................. $ 8,491,009 $ 9,470,318
==============================================
</TABLE>
See accompanying notes to interim condensed financial statements
3
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DATA RACE, INC.
CONDENSED STATEMENTS OF OPERATIONS
UNAUDITED
<TABLE>
<CAPTION>
Three Months Ended Dec. 31, Six Months Ended Dec. 31,
------------------------------------ -------------------------------------
1997 1996 1997 1996
---------------- ---------------- ---------------- -----------------
<S> <C> <C> <C> <C>
Total revenue........................... $ 1,574,317 $ 4,425,040 $ 2,728,242 $ 12,368,244
Cost of revenue......................... 1,179,688 3,173,650 2,184,292 9,689,459
---------------- ---------------- ---------------- -----------------
Gross profit......................... 394,629 1,251,390 543,950 2,678,785
---------------- ---------------- ---------------- -----------------
Operating expenses:
Engineering and product development.... 1,177,660 1,209,885 2,251,079 2,425,405
Sales and marketing.................... 1,126,264 743,974 2,213,326 1,677,566
General and administration............. 580,218 646,400 1,339,756 1,349,697
---------------- ---------------- ---------------- -----------------
Total operating expenses............. 2,884,142 2,600,259 5,804,161 5,452,668
---------------- ---------------- ---------------- -----------------
Operating loss....................... (2,489,513) (1,348,869) (5,260,211) (2,773,883)
---------------- ---------------- ---------------- -----------------
Other income............................ 32,752 27,726 79,261 71,443
---------------- ---------------- ---------------- -----------------
Loss before income taxes................ (2,456,761) (1,321,143) (5,180,950) (2,702,440)
Income tax benefit...................... - - - -
---------------- ---------------- ---------------- -----------------
Net loss............................. $ (2,456,761) $ (1,321,143) $ (5,180,950) $ (2,702,440)
================================================================================
Per share data:
Net loss............................. (2,456,761) (1,321,143) (5,180,950) (2,702,440)
Effect of beneficial conversion
feature of convertible preferred
stock................................ (107,292) - (250,523) -
---------------- ---------------- ---------------- -----------------
Net loss applicable to common
stock................................ (2,564,053) (1,321,143) (5,431,473) (2,702,440)
Net basic and diluted loss per
share applicable to common stock..... $ (0.46) $ (0.27) $ (1.00) $ (0.57)
================================================================================
Weighted average shares outstanding..... 5,549,000 4,806,000 5,407,000 4,780,000
---------------- ---------------- ---------------- -----------------
</TABLE>
See accompanying notes to interim condensed financial statements
4
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DATA RACE, INC.
CONDENSED STATEMENTS OF CASH FLOWS
UNAUDITED
<TABLE>
<CAPTION>
Six Months Ended Dec. 31,
---------------------------------------------
1997 1996
-------------------- ------------------
<S> <C> <C>
Cash flows from operating activities:
Net loss........................................................ $ (5,180,950) $ (2,702,440)
Adjustments to reconcile net loss to net cash provided by (used
in) operating activities:
Depreciation and amortization................................. 294,515 351,691
Gain on sales of property and equipment....................... (1,639) -
Changes in assets and liabilities:
Accounts receivable........................................... 1,213,254 25,433
Inventory..................................................... 175,368 2,623,447
Prepaid expenses, deposits and other assets................... 23,189 95,163
Accounts payable.............................................. (373,276) (1,306,063)
Accrued expenses.............................................. (126,703) (63,747)
Other current liabilities..................................... (932) (308,578)
-------------------- ------------------
Net cash used in operating activities........................ (3,977,174) (1,285,094)
-------------------- ------------------
Cash flows from investing activities:
Purchase of property and equipment.............................. (30,909) (220,910)
Proceeds from sale of property and equipment.................... 2,420 34,038
-------------------- ------------------
Net cash used in investing activities........................ (28,489) (186,872)
-------------------- ------------------
Cash flows from financing activities:
Net proceeds from the issuance of preferred stock 4,616,724 -
Stock option transactions....................................... 85,828 208,747
-------------------- ------------------
Net cash provided by financing activities.................... 4,702,552 208,747
-------------------- ------------------
Net increase (decrease) in cash and cash equivalents............. 696,889 (1,263,219)
Cash and cash equivalents at beginning of period................. 4,535,768 3,990,435
-------------------- ------------------
Cash and cash equivalents at end of period....................... $ 5,232,657 $ 2,727,216
=============================================
</TABLE>
See accompanying notes to interim condensed financial statements
5
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DATA RACE, Inc.
NOTES TO INTERIM CONDENSED FINANCIAL STATEMENTS
UNAUDITED
1) Summary of Significant Accounting Policies
- ----------------------------------------------
Description of Business
DATA RACE, Inc. ("DATA RACE" or the "Company") designs, manufactures, and
markets a line of communication products that meet the need for "Remote Access
to the Corporate Environment." The Company's products enable knowledge workers
who work at home, in branch offices, or on the road from hotels or airport
lounges, to access the various elements of the corporate communications
infrastructure. These products include the Be There! personal multiplexer
system, a unique client/server product that enables teleworkers to access all
elements of the corporate communications network. With Be There!, teleworkers
access the intranet and the Internet, while sending and receiving e-mail, faxes
and phone calls -- simultaneously and over a single phone line. The Company
also designs and manufactures advanced COMMUNICATIONS SUBSYSTEMS FOR
MANUFACTURERS OF NOTEBOOK COMPUTERS, AS WELL AS A LINE OF NETWORK MULTIPLEXERS
WHICH CARRY DATA, VOICE, AND FAX TRAFFIC BETWEEN A COMPANY'S BRANCH AND
HEADQUARTERS OFFICES, OVER A BROAD RANGE OF WIDE AREA COMMUNICATIONS SPEEDS AND
SERVICES.
Basis of Presentation
The unaudited interim financial statements reflect all adjustments (consisting
of normal recurring accruals) that in the opinion of management are necessary
for a fair presentation of the financial position, results of operations and
cash flows for such periods. These financial statements should be read in
conjunction with the Company's financial statements and notes thereto included
in the Annual Report on Form 10-K for the fiscal year ended June 30, 1997, and
the Quarterly Report on Form 10-Q for the quarter ended September 30, 1997. The
balance sheet data as of June 30, 1997 included herein has been derived from
such audited financial statements. Interim period results are not necessarily
indicative of the results to be expected for any future periods or the full
year.
2) Earnings Per Share
- ----------------------
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 128, Earnings Per Share. FASB
Statement No. 128 supersedes APB Opinion No. 15, Earnings Per Share, and
specifies the computation, presentation, and disclosure requirements for
earnings per share ("EPS"). It replaces Primary EPS and Fully Diluted EPS with
Basic EPS and Diluted EPS, respectively. Basic EPS, unlike Primary EPS,
excludes all dilution while Diluted EPS, like Fully Diluted EPS, reflects the
potential dilution that could occur if
6
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securities or other contracts to issue common stock were exercised or converted
into common stock or resulted in the issuance of common stock that then shared
in the earnings of the entity. Statement No. 128 is effective for financial
statements for both interim and annual periods ending after December 15, 1997.
Diluted loss per share approximates basic loss per share as no potential common
shares are to be included in the computation when a loss from continuing
operations available to common shareholders exists. The Company had
approximately 1,475,000 and 1,188,000 options outstanding as of December 31,
1997 and 1996 respectively. The Company had 705 shares of Series A Convertible
Preferred Stock and 5,000 shares of Series C Convertible Participating Preferred
Stock outstanding as of December 31, 1997. The Company also had warrants to
purchase 45,800 shares of Common Stock at $16.375 and 139,861 shares of Common
Stock at $6.435 outstanding at December 31, 1997. No Series A or Series C
Convertible Preferred Stock and warrants were outstanding as of December 31,
1996. All previously reported per share amounts have been restated to conform to
the new presentation.
3) Inventory
- -------------
Inventory is valued at the lower of standard cost (approximates first-in, first-
out) or market (net realizable value). Inventory consists of the following:
<TABLE>
<CAPTION>
December 31, June 30,
------------------ ------------------
1997 1997
<S> <C> <C>
Finished goods $ 70,783 $ 218,777
Work in process 569,686 440,005
Raw materials 241,162 398,217
------------------ ------------------
Total inventory $ 881,631 $ 1,056,999
================== ==================
</TABLE>
4 Litigation
- --------------
On November 28, 1995, a class action shareholder lawsuit was filed against the
Company and certain of its officers. On December 15, 1995, an additional
shareholder lawsuit was filed with identical allegations. On February 23, 1996,
the cases were consolidated, and the style of the case was changed to In Re Data
----------
Race, Inc. Securities Litigation.
- --------------------------------
On July 29, 1997, The Company and the Plantiffs agreed to settle the In Re
-----
Data Race, Inc. Securities Litigation. If the lawsuit were settled in accordance
- -------------------------------------
with this agreement, the Company's insurance carrier would pay $800,000 in cash
and the Company would contribute 10,000 shares of Common Stock. The Company
believes that the case is absolutely without merit, and that neither the Company
nor any of the other defendants committed any of the alleged wrongdoings. The
Company decided to accept the settlement agreement based on the advice of
counsel that the costs to the Company of defending the lawsuit could exceed the
cost to the Company of the proposed settlement, and based on the unpredictable
results of jury trials. The settlement is contingent upon execution of a
definitive settlement agreement, U.S. District Court
7
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approval and certain other conditions. There can be no assurance that all such
conditions will be satisfied. In the event final settlement is not reached, the
Company intends to continue to vigorously defend against the claims made in the
lawsuit. The Company is unable, however, to predict the costs to be incurred to
resolve the lawsuit in the event settlement is not reached on the terms set
forth in the preliminary settlement agreement. The Company is required under
certain circumstances to indemnify the named officers against losses incurred as
a result of the lawsuit.
5) Convertible Preferred Stock
- -------------------------------
On November 12, 1997, the Company completed the first closing of a private
placement of its 1997 Series C Convertible Participating Preferred Stock
("Preferred Stock") and Stock Purchase Warrants ("Warrants") with four
investment firms (the "Investors"), at an aggregate price of $5,000,000. At such
time, the Investors agreed, subject to certain conditions, to purchase at a
second closing, on or before January 29, 1998, additional shares of Preferred
Stock and Warrants at an aggregate price of $3,000,000. The Company has used and
intends to use the proceeds from the sale of the Preferred Stock and Warrants
for the development and launch of new products, including the Company's Be
There! products, and for working capital.
The Preferred Stock bears an 8% dividend per annum payable in kind upon the
earlier of conversion or maturity, is non-voting except in limited
circumstances, ranks senior to Common Stock in liquidation, and is redeemable at
the option of the holders in limited circumstances, including the Company's
breach of certain covenants imposed by the Preferred Stock. The Preferred Stock
is convertible into Common Stock at the option of each holder commencing upon
the earlier of (i) the registration statement being declared effective or (ii)
three months after the purchase date. The number of shares of Common Stock that
may be issued upon conversion of the Preferred Stock will be equal to the stated
value of the Preferred Stock divided by the applicable conversion price (as
defined in the Statement of Designations establishing the Preferred Stock). Any
Preferred Stock outstanding two years after its issuance date will convert
automatically into Common Stock.
The Warrants issued at the first closing are exercisable for an aggregate of
139,861 shares of Common Stock at a price of $6.435 per share through the third
anniversary of the date of issuance. The Warrants will vest in two equal
installments on April 12, 1998, and August 12, 1998, but only in the same
proportion which the number of shares of Preferred Stock then outstanding bears
to the number of shares of Preferred Stock initially issued.
As of February 5, 1998, 100 shares of the initial 5,000 shares of the Preferred
Stock had been converted into 41,409 shares of Common Stock.
As of February 5, 1998, 4,495 shares of the initial 5,000 shares of the 1997
Series A Convertible Preferred Stock had been converted into 675,842 shares of
Common Stock.
8
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6) Subsequent Events
- ---------------------
On January 12, 1998, all proposals presented to the shareholders of the Company
at the annual meeting were approved, including certain issuances of Common Stock
in connection with the private placement of the Preferred Stock and Warrants.
The Company believes that it met all of the conditions necessary for the
immediate second funding of the additional shares of Series C Convertible
Preferred Stock and Warrants at an aggregate price of $3,000,000. However, the
Company has determined that an immediate funding may not be in the best interest
of shareholders because of the dilution caused by the current stock price. As a
result, on January 30, 1998, the Company and the holders of Series C Convertible
Preferred Stock agreed to delay the second funding until April 15, 1998 and
modify or eliminate a number of the conditions of closing.
9
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
- --------------------------------------------------------------------------------
OF OPERATIONS
- -------------
Overview
- --------
DATA RACE believes that the indirect sales channels are critically important to
reaching its revenue objectives. As a result, the Company has focused a large
amount of its resources in establishing relationships with a variety of
distribution partnerships, especially the billion-dollar class partners. While
the time to record revenue from indirect sales partners is longer than direct
sales, due to the need for joint generation of a marketing plan and training of
salespeople at multiple locations, the Company believes that this strategy is in
the shareholders' best interest.
Revenue from the new Be There! product line was about 9% of the total revenue
during the quarter ended December 31, 1997. Revenue from Be There! Products was
split approximately evenly between direct sales to users and sales to
distribution partners. Direct Be There! revenue increased during the quarter
primarily due to the sale of systems for 100 users at a large communications
solutions company. Sales to distribution partners significantly increased during
the quarter, but the Company believes these sales must increase much further in
order to reach its revenue objectives.
Results of Operations
Total revenue for the three months ended December 31, 1997 decreased 64% to
$1,574,000 from $4,425,000 in the comparable period of the prior fiscal year.
Revenue for the six months ended December 31, 1997 decreased 78% to $2,728,000
from $12,368,000 in the comparable period of the prior fiscal year. These
decreases were primarily due to the completion during the quarter ended June 30,
1997 of substantially all shipments under existing custom modem contracts and
the significant decline in revenue from network multiplexers. The Company
believes that the market for custom modems is in a state of transition, and
future opportunities in this market are expected to increasingly shift from
high-volume manufacturing to alternatives such as custom design contracts and
royalties. The Company has taken steps to better align its spending related to
custom modems to the expected lower revenue levels. During January 1998, the
Company reduced its total workforce by approximately one quarter, primarily in
areas related to volume modem manufacturing. Therefore, certain manufacturing
and operating expenses are expected to decline in future periods.
Gross profit margin was 25% and 20% for the three and six months ended December
31, 1997, down from 28% and 22% from the comparable periods of the prior fiscal
year. The decreases were primarily due to manufacturing variances attributable
to reduced production volumes.
Engineering and product development expenses for the three and six months ended
December 31, 1997 were comparable to the same periods of the prior fiscal year.
10
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Sales and marketing expenses for the three and six months ended December 31,
1997 increased 51% and 32% respectively from the comparable periods of the prior
fiscal year. These increases were primarily due to the additional sales and
marketing personnel additions for the Company's new Be There! personal
multiplexer product line.
General and administrative expenses for the three months ended December 31, 1997
decreased 10% to $580,000 from $646,000 from the comparable period of the prior
fiscal year. This decrease was primarily attributable to decrease in legal
expenditures associated with the class action shareholder lawsuit. For the six
months ended December 31, 1997, general and administrative expenses were
essentially unchanged from the comparable period of the prior fiscal year.
Income tax benefits related to the losses for the three and six months ended
December 31, 1997 were not recognized because the utilization of such benefits
is not assured. As of December 31, 1997, the Company had federal tax net
operating loss carry forwards of approximately $32,000,000 which expire
beginning in 2009. The value of these net operating loss carryforwards is
dependent on future events and complex tax code provisions, and cannot be stated
with certainty.
Liquidity and Capital Resources
Operating losses have had and continue to have a substantial negative effect on
the Company's cash balance. At December 31, 1997, the Company had $5,233,000 in
cash and cash equivalents. During the first six months of fiscal 1998, the
Company financed its operations by drawing on available cash and cash
equivalents. Expenditures for property and equipment for the first six months
of fiscal 1998 were $31,000.
In November 1997, the Company received net proceeds of approximately $4,617,000
from the issuance of Series C Convertible Participating Preferred Stock
("Preferred Stock") and related warrants. At such time, the investors agreed,
subject to certain conditions, to purchase an additional $3,000,000 of Preferred
Stock and warrants by January 29, 1998. The Preferred Stock is redeemable under
certain circumstances. See Item 2 of this report for a more complete description
of the terms of the transaction. The Company believes that it met all the
conditions necessary for the immediate second funding, but has determined that
an immediate funding may not be in the shareholders' best interest due to
dilution caused by the current stock price. On January 30, 1998, the Company and
the holders of the Preferred Stock agreed to delay the second funding until
April 15, 1998 and modify or eliminate a number of the conditions of closing.
The Company's ability to sustain operations, make future capital expenditures
and fund the development and marketing of new products, including the Be There!
11
<PAGE>
remote access system, are highly dependent on existing cash, final settlement
of the shareholder lawsuit, and the Company's return to profitability. The
timing and amount of the Company's future capital requirements can not be
accurately predicted. The Company does not anticipate a return to profitability
as long as its expenditures on the Be There! system remain disproportionate to
attendant revenue. As a result, the Company may in the future require
additional financing; the failure to obtain such financing when needed would
have a material adverse effect on the Company.
Disclosure Regarding Forward Looking Statements
Except for the historical information, this report contains various "forward-
looking statements" which represent the Company's expectations or beliefs
concerning future events, including the timing and levels of revenues from the
Company's Be There! products, the Company's success in developing distribution
partnerships and increasing direct sales relationships and the time required to
develop such relationships and customer acceptance of the Be There! products.
The Company cautions that these forward-looking statements involve a number of
risks and uncertainties and are qualified by important factors that could cause
actual results to differ materially from those in the forward-looking
statements. Such factors include lack of adequate capital; changing market
trends and market needs; uncertainty regarding the breadth of market acceptance
of the teleworker products' performance; uncertainty regarding the length of the
sales process; increased risk of sales returns associated with newly introduced
products; rapid or unexpected technological changes; new or increased
competition from companies with greater resources than the Company; inability to
resolve technical issues or overcome other development obstacles; and certain
other factors set forth in the Company's SEC filings, including the Form 10-K
for fiscal 1997. The Company's failure to succeed in its efforts, including its
sales efforts with respect to the teleworker products, could have a material
adverse effect on the Company's financial condition and operations.
12
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PART II - OTHER INFORMATION
DATA RACE, INC.
ITEM 1. LEGAL PROCEEDINGS
- ---------------------------
The information contained in Note 4 of "Notes to Interim Condensed Consolidated
Financial Statements," herein, regarding significant lawsuit is incorporated by
reference to this Item 1. Such lawsuit was also reported in the Company's
Annual Report on Form 10-K for the fiscal year ended June 30, 1997. There were
no material developments in the shareholder lawsuit during the quarter ended
December 31, 1997.
ITEM 2. CHANGES IN SECURITIES
- ------------------------------
On November 12, 1997, the Company completed the first closing of a private
placement of its 1997 Series C Convertible Participating Preferred Stock
("Preferred Stock") and Stock Purchase Warrants ("Warrants") with Nelson
Partners, Olympus Securities, Ltd., CC Investments, LDC and Capital Ventures
International (the "Investors"), at an aggregate price of $5,000,000. At such
time, the Investors agreed, subject to certain conditions, to purchase at a
second closing, on or before January 29, 1998, additional shares of Preferred
Stock and Warrants at an aggregate price of $3,000,000. The Company believes
that it met all of the conditions necessary for the immediate second funding of
the additional shares of Series C Convertible Preferred Stock and Warrants at an
aggregate price of $3,000,000. However, the Company has determined that an
immediate funding may not be in the best interest of shareholders because of the
dilution caused by the current stock price. As a result, on January 30, 1998,
the Company and the holders of Series C Convertible Preferred Stock agreed to
delay the second funding until April 15, 1998 and modify or eliminate a number
of the conditions of closing.
The Company has used and intends to use the proceeds from the sale of the
Preferred Stock and Warrants for the development and launch of new products,
including the Company's Be There! products, and for working capital.
The Preferred Stock bears an 8% dividend per annum payable in kind upon the
earlier of conversion or maturity, is non-voting except in limited
circumstances, ranks senior to Common Stock in liquidation, and is redeemable at
the option of the holders in limited circumstances, including the Company's
breach of certain covenants imposed by the Preferred Stock. The Preferred Stock
is convertible into Common Stock at the option of each holder commencing upon
the earlier of (i) the registration statement being declared effective or (ii)
three months after the purchase date. The number of shares of Common Stock that
may be issued upon conversion of the Preferred Stock will be equal to the stated
value of the Preferred Stock divided by the applicable conversion price (as
defined in the Statement of Designations establishing the Preferred Stock). Any
Preferred Stock outstanding two years after its issuance date will convert
automatically into Common Stock.
The Warrants issued at the first closing are exercisable for an aggregate of
139,861 shares of Common Stock at a price of $6.435 per share through the third
anniversary of the date of issuance. The Warrants will vest in two equal
installments on April 12, 1998, and August 12, 1998, but only in the same
proportion which the number of shares of Preferred Stock then outstanding bears
to the number of shares of Preferred Stock initially issued.
13
<PAGE>
The private placement was arranged by Southcoast Capital Corporation
(Southcoast), which received a fee equal to 5% of the aggregate gross proceeds
received by the Company from the sale of the Preferred Stock and Warrants. The
Company agreed to indemnify Southcoast against certain liabilities, including
liabilities under the Securities Act.
The offer and sale of the Preferred Stock and Warrants were, and, in connection
with the second closing, will be, made in reliance upon Section 4(2) of the
Securities Act, the non-public offering exemption from the registration
requirements of the Securities Act.
As of February 5, 1998, 100 shares of the initial 5,000 shares of the 1997
Series C Preferred Stock had been converted into 41,409 share of common stock.
A more complete description of the private placement and the restrictions
pertaining to the Preferred Stock and Warrants is contained in the exhibits to
the Company's Current Report 8-K filed on November 19, 1997 and in Exhibit 10.1
of this Report on Form 10-Q.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
- ----------------------------------------
NONE.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------------------------------------------------------------
NONE.
ITEM 5. OTHER INFORMATION
- --------------------------
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- -----------------------------------------
(A) EXHIBITS.
- --------------
EXHIBIT
- -------
10.1 AMENDMENT DATED JANUARY 30, 1998 TO THE SECURITIES PURCHASE AGREEMENT
DATED AS OF NOVEMBER 7, 1997.
27.0 FINANCIAL DATA SCHEDULE
(B) REPORTS ON FORM 8-K.
- -------------------------
FORM 8-K WAS FILED ON NOVEMBER 19, 1997, TO REPORT A $5,000,000 PRIVATE
PLACEMENT OF 8% CONVERTIBLE PARTICIPATING PREFERRED STOCK AND WARRANTS WITH FOUR
INSTITUTIONAL INVESTMENT FIRMS.
14
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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.
DATA RACE, INC.
BY:
-----------------------------------------------
GREGORY T. SKALLA, VICE PRESIDENT, FINANCE
CHIEF FINANCIAL OFFICER, TREASURER AND SECRETARY
(PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER)
DATE: FEBRUARY 5, 1998
15
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EXHIBIT 10.1
January 30, 1998
DATA RACE, Inc.
12400 Network Boulevard
San Antonio, Texas 78249-3341
Attention: Gregory T. Skalla
RE: SERIES C CONVERTIBLE PARTICIPATING PREFERRED STOCK AND WARRANTS
-------------------------------------------------------------------
Dear Mr. Skalla:
We refer to the Securities Purchase Agreement, dated November 7, 1997
(the "Purchase Agreement"), by and among DATA RACE, Inc. (the "Company") and
the buyers named therein (the "Buyers") relating to the sale by the Company of
shares of Series C Convertible Participating Preferred Stock (the "Preferred
Stock") and the related warrants (the "Warrants") of the Company to the Buyers.
Pursuant to the terms of the Purchase Agreement, on November 12, 1997 the
Company sold 5,000 shares of Preferred Stock and 139,861 Warrants to the Buyers.
Subject to the terms and conditions set forth in the Purchase Agreement, the
Company will sell an aggregate of an additional 3,000 shares of Preferred Stock
(the "Additional Preferred Shares") and the related Warrants to the Buyers.
The Company and the Buyers have agreed to the following changes to the
Purchase Agreement:
1. Section 1(c) of the Purchase Agreement is amended to define the
"Additional Closing Date" as "April 15, 1998 (or such later date as
is mutually agreed to by the Company and the Buyers)" rather than
the Additional Closing Date currently set forth in Section 1(c) of
the Purchase Agreement. Each of the Buyers acknowledges it has
received the Additional Share Notice.
2. Section 7(b)(iii) is amended and restated in its entirety as
follows:
(A) The representations and warranties of the Company shall be true
and correct as of the date when made and as of January 30, 1998 as
though made at that time (except for representations and warranties
that speak as of a specific date) and the Company shall have
performed, satisfied and complied with the covenants, agreements and
conditions required by the Transaction Documents to be performed,
satisfied or complied with by the Company (including, without
limitation, those set forth in Section 1(c) of this Agreement) at or
prior to the Additional Closing as if the Additional Closing had
occurred on January 30, 1998. Such Buyer shall have received a
certificate, executed by the Chief Financial Officer of the Company,
dated as of the Additional Closing Date, to the foregoing effect and
an update as of January 30, 1998 regarding the representation
contained in Section 3(c) above (including an updated Schedule
3(c)).
<PAGE>
(B) The representations and warranties of the Company set forth in
paragraphs (a), (b), (c), (d), (f), (i), (k), (l), (w) and (x) of
Section 3 of this Agreement shall be true and correct as of the
Additional Closing Date as though made at that time (except for
representations and warranties that speak as of a specific date) and
the Company shall have performed, satisfied and complied with the
covenants, agreements and conditions required by the Transaction
Documents to be performed, satisfied or complied with by the Company
(subject to Section 7(b)(xi) of this Agreement) at or prior to the
Additional Closing Date. Such Buyer shall have received a certificate,
executed by the Chief Financial Officer of the Company, dated as of
the Additional Closing Date, to the foregoing effect and an update as
of the Additional Closing Date regarding the representation contained
in Section 3(c) above (including an updated Schedule 3(c)).
(C) The following representations and warranties of the Company shall
be true and correct as of November 7, 1997 and as of the Additional
Closing Date as though made at that time and such Buyer shall have
received a certificate, executed by the Chief Financial Officer of the
Company, dated as of the Additional Closing Date, to the foregoing
effect:
(I) No Conflicts. Except as disclosed in Schedule 3(e), the
------------ -------------
execution, delivery and performance of the Transaction Documents
by the Company, the performance by the Company of its obligations
under the Statement of Designations and the consummation by the
Company of the transactions contemplated hereby and thereby will
not (i) result in a violation of the Articles of Incorporation,
any Statement of Designations, Preferences and Rights of any
outstanding series of Preferred Stock of the Company or the By-
laws or (ii) conflict with, or constitute a default (or an event
which with notice or lapse of time or both would become a
default) under, or give to others any rights of termination,
amendment, acceleration or cancellation of, any material
agreement, indenture or instrument to which the Company or any of
its subsidiaries is a party, or result in a violation of any law,
rule, regulation, order, judgment or decree (including federal
and state securities laws and regulations and the rules and
regulations of the principal market or exchange on which the
Common Stock is traded or listed) applicable to the Company or
any of its subsidiaries or by which any property or asset of the
Company or any of its subsidiaries is bound or affected. Except
as disclosed in Schedule 3(e), neither the Company nor its
-------------
subsidiaries is in violation of any term of or in default under
the Articles of Incorporation, any Statement of Designations,
Preferences and Rights of any outstanding series of Preferred
Stock or the By-laws or their organizational charter or by-laws,
respectively, except for possible defaults or violations that
would not individually or in the aggregate have a Material
Adverse Effect. The business of the Company and its subsidiaries
is not being conducted, and shall not be conducted, in violation
of any law, ordinance, regulation of any governmental entity,
except for possible violations the sanctions for which either
individually or in the aggregate would not have a Material
Adverse Effect. Except as specifically contemplated by this
Agreement and as required under the 1933 Act, the Company is not
required to obtain any consent, authorization or order of, or
make any filing or registration with, any
<PAGE>
court or governmental agency or any regulatory or self regulatory
agency in order for it to execute, deliver or perform any of its
obligations under or contemplated by the Transaction Documents or
to perform its obligations under the Statement of Designations,
in each case in accordance with the terms hereof or thereof.
Except as disclosed in Schedule 3(e), all consents,
-------------
authorizations, orders, filings and registrations which the
Company is required to obtain pursuant to the preceding sentence
have been obtained or effected on or prior to the date hereof.
The Company and its subsidiaries are unaware of any facts or
circumstances which might give rise to any of the foregoing.
(II) Absence of Certain Changes. The Company has not taken any
--------------------------
steps, and does not currently expect to take any steps, to seek
protection pursuant to any bankruptcy law nor does the Company or
its subsidiaries have any knowledge or reason to believe that its
creditors intend to initiate involuntary bankruptcy proceedings.
3. Section 7(b)(viii) is amended and restated in its entirety as follows
(and to such extent Section 5 of the Purchase Agreement shall be
qualified):
The Irrevocable Transfer Agent Instructions, in the form of Exhibit D
---------
attached hereto, shall have been delivered by the Company to the
Company's transfer agent and the Company shall have used, and will
continue to use, its best efforts to have the Irrevocable Transfer
Agent Instructions acknowledged in writing by the Company's transfer
agent.
4. Section 7(b)(xi) of the Purchase Agreement is amended and restated in
its entirety as follows (and to such extent Section 1(c) of the
Purchase Agreement shall be qualified):
(A) The conditions of Section 1(c) of this Agreement shall have been
satisfied as of January 30, 1998.
(B) The conditions of Section 1(c) of this Agreement shall have been
satisfied as of the Additional Closing Date, except that the
conditions set forth in clauses (ii), (iv) and (v) of Section 1(c) of
this Agreement are not required to be satisfied as the Additional
Closing Date.
(C) During the period beginning on November 7, 1997 and ending on and
including the Additional Closing Date, there shall not have occurred
(I) the consummation of a Major Corporate Event (as defined in Section
2(f) of the Statement of Designations) or (II) a Triggering Event (as
defined in Section 3(d) of the Statement of Designations).
5. Section 4(b) and Section 7(b)(xii) of the Purchase Agreement are
deleted in their entirety.
In addition, in the process of reviewing the form of Warrant attached to
the Purchase Agreement and to be issued at the Additional Closing Date we noted
that the vesting provisions
<PAGE>
thereof should be clarified. Accordingly, the Company and the Buyers have
agreed to the following changes to the form of Warrant and to the Warrants
outstanding as of the date hereof:
1. Clause (B) of Section 1(d)(i) of the form of Warrant is amended and
restated to read "(B) the quotient of (x) the aggregate number of
shares of Preferred Stock issued on the date hereof to the initial
holder of this Warrant pursuant to the Securities Purchase Agreement
and which remain outstanding on the date which is 150 days after the
date hereof divided by (y) the aggregate number of shares of Preferred
Stock issued on the date hereof to such holder pursuant to the
Securities Purchase Agreement (such resulting number of shares is
referred to herein as the "INITIAL VESTED SHARES")".
2. Clause (B) of Section 1(d)(ii) of the form of Warrant is amended and
restated to read "(B) the quotient of (x) the aggregate number of
shares of Preferred Stock issued on the date hereof to the initial
holder of this Warrant pursuant to the Securities Purchase Agreement
and which remain outstanding on the date which is 270 days after the
date hereof divided by (y) the aggregate number of shares of Preferred
Stock issued on the date hereof to such holder pursuant to the
Securities Purchase Agreement (such resulting number of shares is
referred to herein as the "SUBSEQUENT VESTED SHARES")".
Except as modified above, the Purchase Agreement and the form of Warrant
attached thereto remain in full force and effect in accordance with their terms.
Pursuant to Section 2(b)(ii) of the Statement of Designations, Preferences and
Rights of Series C Convertible Participating Preferred Stock of DATA RACE, Inc.
(the "Statement of Designations"), any Additional Preferred Shares issued on
April 15, 1998 will have an initial Fixed Conversion Price equal to 120% of the
Market Price (as defined in the Statement of Designations) of the Common Stock
on April 15, 1998.
The Company agrees that, on or before February 5, 1998, the Company shall
publicly disclose the terms of this letter agreement by filing a Form 8-K or its
Form 10-Q for the three months ended December 31, 1997 on or before February 5,
1998, which Form 8-K or Form 10-Q shall include a description of the material
terms of this letter agreement and shall include as an exhibit a copy of this
letter agreement.
This letter agreement is effective January 30, 1998 and shall be binding
upon the parties and their successors and assigns and may be amended or
terminated only by a writing signed by all the parties hereto.
<PAGE>
Please indicate your agreement to the above by signing in the space
provided below and faxing a signed copy to each of the Buyers listed below.
BUYERS:
NELSON PARTNERS
By: /s/ NITIN AGGARWAL
------------------------------------
Name: Nitin Aggarwal
Title: Director
OLYMPUS SECURITIES, LTD.
By: /s/ NITIN AGGARWAL
------------------------------------
Name: Nitin Aggarwal
Its: Director
CC INVESTMENTS, LDC
By: /s/ JOHN D. ZIGELMAN
------------------------------------
Name: John D. Zigelman
Its: Director
CAPITAL VENTURES INTERNATIONAL
By: Heights Capital Management
Its: Authorized Agent
By: /s/ JOHANN H. KOEHNE
----------------------------
Name: Johann H. Koehne
Its: Investment Manager
Accepted and agreed to this
30th day of January, 1998:
DATA RACE, INC.
By: /s/ GREGORY T. SKALLA
------------------------------------
Gregory T. Skalla
Vice President and Chief
Financial Officer
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM DATA RACE,
INC FINANCIAL STATEMENTS AS OF AND FOR THE SIX MONTHS ENDED DECEMBER 31, 1997,
AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> JUN-30-1998
<PERIOD-START> JUL-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 5,233
<SECURITIES> 0
<RECEIVABLES> 666
<ALLOWANCES> 0
<INVENTORY> 882
<CURRENT-ASSETS> 6,781
<PP&E> 4,066
<DEPRECIATION> 2,398
<TOTAL-ASSETS> 8,491
<CURRENT-LIABILITIES> 2,106
<BONDS> 0
0
5,372
<COMMON> 29,342
<OTHER-SE> (28,328)
<TOTAL-LIABILITY-AND-EQUITY> 8,491
<SALES> 2,728
<TOTAL-REVENUES> 2,728
<CGS> 2,184
<TOTAL-COSTS> 7,988
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (5,181)
<INCOME-TAX> 0
<INCOME-CONTINUING> (5,181)
<DISCONTINUED> 0
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<NET-INCOME> (5,181)
<EPS-PRIMARY> (1.00)
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