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 quarterly period ended September 30, 1998
Commission File No. 0-21600
ECCS, INC.
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(Exact Name of Registrant as Specified in Its Charter)
New Jersey 22-2288911
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
One Sheila Drive, Tinton Falls, New Jersey 07724
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(Address of Principal Executive Offices) (Zip Code)
(732) 747-6995
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(Registrant's Telephone Number,
Including Area Code)
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:
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of September 30, 1998:
Class Number of Shares
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Common Stock, $.01 par value 11,001,984
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ECCS, INC.
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION............................................1
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Item 1. Financial Statements.........................................1
Consolidated Balance Sheets as of December 31, 1997 (audited)
and September 30, 1998 (unaudited).................................2
Consolidated Statements of Operations for the
three months ended September 30, 1997 and
September 30, 1998 and for the nine months
ended September 30, 1997 and
September 30, 1998 (unaudited).....................................3
Consolidated Statements of Cash Flows for the
nine months ended September 30, 1997 and
September 30, 1998 (unaudited).....................................4
Notes to Consolidated Financial Statements (unaudited).............5
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations............10
Overview .........................................................10
Results of Operations (Dollars in Thousands)......................12
Liquidity and Capital Resources (Dollars in Thousands)............18
PART II. OTHER INFORMATION..............................................22
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Item 5. Other Information...........................................22
Item 6. Exhibits and Reports on Form 8-K............................22
SIGNATURES..............................................................23
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
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ECCS, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands)
December 31, September 30,
1997 1998
------------ ------------
( unaudited)
Assets:
Current Assets:
Cash and cash equivalents......................... $ 11,625 $ 9,005
Accounts receivable, less allowance for doubtful
accounts of $297 and $230 at December 31, 1997 and
September 30, 1998, respectively................... 5,737 5,624
Inventories......................................... 4,596 4,785
Prepaid expenses and other receivables.............. 506 507
------- -------
22,464 19,921
Property, plant and equipment (net)................... 1,372 1,810
Capitalized software (net)............................ 811 1,343
Other assets.......................................... 345 257
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Total Assets .................................... $ 24,992 $23,331
======== =======
Liabilities and Shareholders'Equity
Current Liabilities:
Loans payable....................................... $ 1,031 $1,410
Current portion of capital lease obligations........ 11 89
Accounts payable.................................... 3,833 3,298
Accrued expenses and other.......................... 1,385 1,248
Warranty............................................ 534 540
Customer deposits, advances and other credits....... 410 218
-------- -------
7,204 6,803
Capital lease-long term net of current portion........ -- 124
Deferred rent......................................... 145 96
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7,349 7,023
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Shareholders' Equity:
Common stock, $0.01 par value per share,
authorized, 20,000,000 shares; issued and
outstanding 10,918,188 shares and 11,001,984
shares at December 31, 1997 and September 30,
1998, respectively................................. 109 110
Capital in excess of par value - common ............ 25,615 25,824
Deficit............................................. (8,081) (9,626)
--------- --------
17,643 16,308
Total Liabilities and Shareholders'Equity.......... $ 24,992 23,331
. ======== =======
See notes to consolidated financial statements.
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<TABLE>
<CAPTION>
ECCS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In Thousands, Except Per Share Amounts)
For the Three Months For the Nine Months
Ended September 30 Ended September 30
--------------------- -------------------
1997 1998 1997 1998
<S> <C> <C> <C> <C>
Net sales ................................... $ 8,669 $ 6,317 $ 26,509 $ 21,026
Cost of sales ............................... 6,210 4,402 19,058 14,714
---------- -------- -------- --------
Gross profit .............................. 2,459 1,915 7,451 6,312
Operating expenses:
Selling, general & administrative ......... 1,601 2,222 5,087 6,127
Research & development .................... 478 733 1,174 2,049
---------- -------- -------- --------
Operating income (loss) .................... 380 (1,040) 1,190 (1,864)
Net interest expense (income) ............. 58 (103) 170 (319)
---------- --------- -------- ---------
Income (loss) before extraordinary item ..... 322 (937) 1,020 (1,545)
Extraordinary item ........................ 120 -- 120 --
---------- --------- -------- ---------
Net income (loss) ......................... $ 202 $ (937) $ 900 $(1,545)
---------- --------- -------- ---------
Preferred dividends ....................... 38 -- 192 --
---------- --------- -------- ---------
Net income (loss) applicable to common shares $ 164 $ (937) $ (708) $ (1,545)
========== ========= ========= =========
Earnings (loss) per common share:
Net income (loss) per share before
extraordinary item ......................... $ 0.05 $ -- $ 0.19 $ --
========== ========= ========= ==========
Net income (loss) per share - basic ......... $ 0.02 $ (0.09) 0.13 $ (0.14)
========== ========= ========= ==========
Earnings (loss) per common share-
assuming dilution:
Net income (loss) per common share
before extraordinary item - diluted ........ $ 0.04 $ -- $ 0.11 $ --
========== ========= ======== ==========
Net income (loss) per common share -
diluted ..................................... $ 0.03 $ (0.09) $ 0.10 $ (0.14)
========== ========= ======== ==========
Weighted average number of common
and dilutive shares - basic ................ 6,911 10,998 5,288 10,959
========== ========= ======== =========
Weighted average number of common and
dilutive shares - diluted .................. 7,798 10,998 9,369 10,959
========== ========= ======== =========
</TABLE>
See notes to consolidated financial statements.
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<TABLE>
<CAPTION>
ECCS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in Thousands)
Nine Months Ended September 30,
--------------------------------
1997 1998
--------------- ---------------
Cash flows from operating activities:
<S> <C> <C>
Net income (loss) ............................................................. $ 900 $ (1,545)
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation and amortization ............................................... 897 822
(Increase) decrease in accounts receivable .................................. (1,653) 113
Decrease (increase) in inventories .......................................... 876 (189)
(Increase) decrease in prepaid expenses, other receivables and other assets.. (377) 87
Increase in payable to Finova Group AT&T Commercial ......................... 5 --
Decrease in accounts payable, accrued liabilities, deferred rent
and other liabilities .................................................. (1,072) (715)
Decrease in customer deposits, advances and other credits ................... (376) (192)
--------- --------
Net cash used in operating activities ............................................ (800) (1,619)
--------- --------
Cash flows from investing activities:
Additions to property, plant and equipment .................................... (311) (1,112)
Additions to capitalized software ............................................. (395) (680)
--------- --------
Net cash used in investing activities ............................................ (706) (1,792)
--------- --------
Cash flows from financing activities:
Borrowings under revolving credit agreement ................................... 17,812 7,281
Repayments under revolving credit agreements .................................. (19,574) (6,902)
Net proceeds from capital lease obligations ................................... (77) 202
Net proceeds from exercise of employee stock options and issuance
of common stock .............................................................. 185 210
Gross proceeds from sales of common stock ........................................ 11,831 --
Underwriting discounts, commissions and expenses for sales of common stock........ (1,148) --
Dividends paid on Series B and Series C Convertible Preferred Stock .............. (519) --
--------- --------
Net cash used in financing activities ............................................ 8,510 791
--------- --------
Net increase (decrease) in cash and cash equivalents ............................. 7,004 (2,620)
Cash and cash equivalents at beginning of period ................................. 4,393 11,625
-------- --------
Cash and cash equivalents at end of period ....................................... $ 11,397 $ 9,005
======== ========
Supplemental disclosure of cash flow information: Cash paid during the period
for:
Interest .................................................................... $ 170 $ 71
======== ========
</TABLE>
See notes to consolidated financial statements.
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ECCS, INC.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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(Information for September 30, 1997 and September 30, 1998 is unaudited)
NOTE 1 - BASIS OF PRESENTATION:
The information presented for September 30, 1998 and for the three and
nine-month periods then ended, is unaudited, but, in the opinion of the
management of ECCS, Inc. ("ECCS" or the "Company"), the accompanying unaudited
consolidated financial statements contain all adjustments (consisting only of
normal recurring adjustments) which the Company considers necessary for the fair
presentation of the Company's financial position as of September 30, 1998, the
results of its operations for the three and nine-month periods ended September
30, 1997 and September 30, 1998 and its cash flows for the nine-month periods
ended September 30, 1997 and September 30, 1998. The consolidated financial
statements included herein have been prepared in accordance with generally
accepted accounting principles for interim financial information and the
instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted. These consolidated financial statements should be read in
conjunction with the Company's audited financial statements for the year ended
December 31, 1997, which were included as part of the Company's Annual Report on
Form 10-K, as filed with the Securities and Exchange Commission.
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany balances have been
eliminated.
Results for the interim period are not necessarily indicative of results
that may be expected for the entire year.
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (DOLLARS IN THOUSANDS)
(a) Organization and Business
ECCS provides intelligent solutions to store, protect and access mission
critical information for the Open Systems and related markets. The Company
designs, manufactures and sells high performance, user-definable, fault
tolerant, direct platform-attached and network-attached storage subsystems for a
wide range of customer requirements.
The Company sells to a broad range of customers in various industries
(e.g. database companies, financial reporting firms, Wall Street enterprises,
retail enterprises, non-profit organizations, U.S. Federal Government and
Government agencies and telecommunications companies).
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ECCS, INC.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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(Information for September 30, 1997 and September 30, 1998 is unaudited)
(b) Cash and Cash Equivalents
The Company considers short-term investments with a maturity of three
months or less when purchased to be cash equivalents.
(c) Inventories
Inventories are stated at the lower of cost (first-in, first-out method)
or market.
Inventories consist of the following (in thousands):
December 31, September 30,
1997 1998
------------- -------------
(audited) (unaudited)
Purchased parts............................... $2,496 $ 3,164
Finished goods................................ 2,808 2,448
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5,304 5,612
Less: inventory valuation reserve........... 708 827
------ ------
$4,596 $ 4,785
====== =======
(d) Property, Plant and Equipment
Property, plant and equipment are carried at cost. Depreciation and
amortization are provided on a straight-line basis over the estimated useful
lives ranging from 3 to 5 years.
Equipment under capital leases is recorded at the lower of fair value or
present value of minimum lease payments at the inception of the lease.
Amortization of the leased property is computed using the straight-line method
over the term of the lease.
(e) Fair Value of Financial Instruments
The fair value amounts for cash, accounts receivable and short-term debt
approximate carrying amounts due to the short maturity of these instruments.
(f) Software Development Costs
The Company capitalizes software development costs in accordance with the
Statement of Financial Accounting Standards ("SFAS") No. 86. Such costs are
capitalized after technological feasibility has been demonstrated. Such
capitalized amounts are amortized commencing with product introduction on a
straight-line basis utilizing the estimated economic
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ECCS, INC.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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(Information for September 30, 1997 and September 30, 1998 is unaudited)
life ranging from one to three years. Amortization of capitalized software
development is charged to cost of sales and aggregated $437 and $148 for the
nine month periods ended September 30, 1997 and September 30, 1998,
respectively. At December 31, 1997 and September 30, 1998, the Company had
capitalized $2,615 and $3,295 of software development costs, respectively, of
which $1,804 and $1,952 had been amortized, respectively.
(g) Impairment of Long-Lived Assets
In 1996, the Company adopted SFAS No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to be Disposed Of," which had no
effect on its financial condition or results of operations. The Company records
impairment losses on long-lived assets used in operations or expected to be
disposed of when events and circumstances indicate that the cash flows expected
to be derived from those assets are less than the carrying amounts of those
assets. No such events and circumstances have occurred.
(h) Revenue Recognition
In general, revenue is recognized upon shipment of the product or system
or as services are provided. Periodically, revenue is recognized for product
which is being held at the customer's request. Revenue is only recognized on
such product when all risks of ownership have passed to the customer and the
Company has no specific performance obligations remaining. Revenues related to
maintenance contracts are recognized over the respective terms of the
maintenance contracts. Revenue for certain major product enhancements and major
new product offerings, for which the Company believes that significant product
development risks may exist which can realistically only be addressed during
live beta testing at end-user sites, is not recognized until successful
completion of such end-user beta testing.
(i) Warranty
Estimated future warranty obligations related to ECCS products are
provided by charges to operations in the period the related revenue is
recognized.
(j) Research and Development Costs
Research and development costs are expensed as incurred, except for
software development costs which are accounted for as noted above.
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ECCS, INC.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------------------------------------
(Information for September 30, 1997 and September 30, 1998 is unaudited)
(k) Income Taxes
Income taxes are accounted for by the liability method in accordance with
the provisions of SFAS No. 109 Accounting for Income Taxes.
(l) Stock Based Compensation
SFAS No. 123, Accounting for Stock-Based Compensation, encourages, but
does not require companies to record compensation cost for stock-based employee
compensation plans at fair value. The Company has chosen to continue to account
for stock-based compensation using the intrinsic value method prescribed in
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees, and related Interpretations. Accordingly, compensation cost for stock
options is measured as the excess, if any, of the quoted market price of the
Company's stock at the date of the grant over the amount an employee must pay to
acquire the stock.
(m) Per Share Information
In 1997, the Financial Accounting Standards Board issued SFAS No. 128,
Earnings per Share. SFAS No. 128 replaced the calculation of primary and fully
diluted earnings per share with basic and diluted earnings per share. Unlike
primary earnings per share, basic earnings per share excludes any dilutive
effects of options, warrants and convertible securities. Diluted earnings per
share is very similar to the previously reported fully diluted earnings per
share. All earnings per share amounts for all periods have been presented, and
where appropriate, restated to conform to the SFAS No. 128 requirements.
NOTE 3 -- LITIGATION
There are no individual material litigation matters pending to which the
Company is a party or to which any of its property is subject.
NOTE 4 -- CONVERTIBLE PREFERRED STOCK
The Company has an authorized class of 3,000,000 shares of Preferred Stock
which may be issued by the Board of Directors on such terms and with such
rights, preferences and designations as the Board may determine.
NOTE 5 -- CANCELLATION AND REISSUANCE OF STOCK OPTIONS
On October 28, 1997, the Company granted options to purchase (i) 498,400
shares of its common stock, $0.01 par value (the "Common Stock") outside of the
Company's registered
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ECCS, INC.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------------------------------------
(Information for September 30, 1997 and September 30, 1998 is unaudited)
stock option plans, and (ii) 106,000 shares of its Common Stock under the 1996
Stock Plan ((i) and (ii) are collectively referred to as the "Options"), to
certain officers and employees at an exercise price of $8.00 per share. On
February 18, 1998, the Company canceled the Options previously granted on
October 28, 1997. In addition, on February 18, 1998, the Company reissued the
Options to certain officers and employees at an exercise price of $4.00 per
share.
On October 21, 1998 the Board of Directors unanimously voted in favor of
offering to all employees who were previously granted stock options an
opportunity to exchange such options for new stock options to purchase shares of
Common Stock of the Company, at an exercise price equal to $1.25 per share (the
"New Options"), the fair market value of the Company's Common Stock on such
date. The New Options are exercisable to the extent of one-half on each of the
first and second anniversary of the date of grant. The Company offered the New
Options in order to pursue its commitment to retain key employees, particularly
in light of the highly competitive labor market for technical personnel. On
November 5, 1998, the Company formally offered its employees the option to
exchange all outstanding options for the New Options pursuant to the terms of
the 1996 Stock Plan. The number of outstanding options to be exchanged for New
Options currently is not known.
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<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
OVERVIEW
ECCS is a provider of enterprise storage solutions to protect and ensure
access to critical data for server attached, Storage Area Networks (SAN), Fibre
Channel Storage, and Network Attached storage markets. ECCS designs,
manufactures, sells and supports high performance, user-definable, fault and
non-fault tolerant storage subsystems to meet a wide range of customer
applications, needs and Operating Systems (NT and UNIX). These connectivity
options enable storage users the flexibility to choose and deploy a particular
storage solution to meet their needs, accommodating both centralized to
distributed storage philosophies and environments.
The Company believes it has developed innovative fault tolerant storage
systems through continued investment in engineering and through customer-driven
product development. ECCS' strategy is to provide its customers with product
innovation to meet their changing business and computing needs. The Company also
provides its customers with connectivity options, performance enhancements,
flexibility and improved data migration paths to serve most Opens System
environments. The user tools the Company has engineered and incorporated into
its products are easy to use and automate event fixes, work-arounds and various
notification means to track potential problems.
ECCS products are sold globally through OEM's, VAR's and system
integrators. In addition, ECCS' direct sales force sells its products
domestically. ECCS sells to a broad range of customers in various industries
(e.g. large database companies, financial enterprises, retail enterprises,
non-profits organizations, Internet Service Providers, digital imaging users,
telecommunications companies and the US Federal Government).
The Company's revenues are generated from three primary sources: (i)
revenues derived from sales of mass storage enhancement products, which include
sales of all ECCS mass storage enhancement products, including the Synchronix
family of products, and sales of certain third party component products that are
incorporated into such mass storage enhancement systems; (ii) revenues generated
by the Company as a VAR which include the Company's sales to AT&T business units
for non-storage related products; and (iii) revenues derived from services and
other revenue which include professional services and maintenance contracts. The
Company believes that revenues generated by the Company as a VAR, which include
sales to AT&T business units of non-storage related products, will be minimal in
the future.
The statements contained in this Quarterly Report on Form 10-Q that are not
historical facts are forward-looking statements (as such term is defined in the
Private Securities Litigation Reform Act of 1995). Such forward-looking
statements may be identified by, among other things, the use of forward-looking
terminology such as "believes," "expects," "may," "will," "should" or
"anticipates" or the negative thereof or other variations thereon or comparable
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terminology, or by discussions of strategy that involve risks and uncertainties.
These forward-looking statements, such as statements regarding anticipated
future revenues, Year 2000 compliance, capital expenditures, selling, general
and administrative expenditures, research and development expenditures and other
statements regarding matters that are not historical facts, involve predictions.
The Company's actual results, performance or achievements could differ
materially from the results expressed in, or implied by, these forward-looking
statements contained in this Quarterly Report on Form 10-Q. Factors that could
cause actual results, performance or achievements to vary materially include,
but are not limited to: component quality and availability, changes in business
conditions, Year 2000 compliance of the Company's and other vendors' products
and related issues, including impact of the Year 2000 problem on customer buying
patterns, changes in ECCS' sales strategy and product development plans, changes
in the data storage or network marketplace, competition between ECCS and other
companies that may be entering the data storage host/network attached markets,
competitive pricing pressures, continued market acceptance of ECCS' open systems
products, delays in the development of new technology and changes in customer
buying patterns.
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<PAGE>
RESULTS OF OPERATIONS (DOLLARS IN THOUSANDS)
Three Months Ended September 30, 1997 and 1998
----------------------------------------------
NET SALES
Net sales decreased by approximately $2,352, or 27.1%, in the three months
ended September 30, 1998 as compared to net sales in the three months ended
September 30, 1997. Sales of the Company's proprietary mass storage enhancement
systems, including sales of certain third party component products, accounted
for 94.0% and 93.8% of net sales in the quarters ended September 30, 1997 and
1998, respectively. As expected, sales by the Company in its capacity as a VAR
continued to be minimal and accounted for 0.4% and 2.4% of net sales in the
quarters ended September 30, 1997 and 1998, respectively. Services and other
revenues accounted for 5.6% and 3.8% of net sales in the quarters ended
September 30, 1997 and 1998, respectively. The decrease in net sales in the 1998
period resulted primarily from a decrease in sales of the Company's mass storage
enhancement systems to the U.S. Air Force through a Federal Integrator.
Sales to the U.S. Air Force through a Federal integrator were $1,743 and
accounted for approximately 27.6% of net sales in the quarter ended September
30, 1998. Sales to the U.S. Air Force in this quarter declined approximately 57%
as compared to the quarter ended September 30, 1997. The Company believes that
sales to the U.S. Air Force will continue to comprise a significant portion of
the Company's net sales for the next 12 months. There can be no assurance that
the U.S. Air Force will continue to purchase from the Company at historical
levels, if at all.
Sales to alternate channel partners were $2,339 and accounted for
approximately 37% of net sales in the quarter ended September 30, 1998. Such
sales represent a 10% decrease in sales to alternate channel partners when
compared to the third quarter of 1997. Sales to the Company's primary alternate
channel partner, Unisys Corporation ("Unisys"), accounted for approximately
30.5% of the Company's net sales in the quarter ended September 30, 1998. There
can be no assurance that Unisys will continue to place orders with the Company
or that Orders from Unisys will continue from their previous levels.
While the Company has an OEM agreement with Unisys that defines the terms
of the sales and support services provided thereunder, this agreement does not
include specific quantity commitments. The Company's sales are made by purchase
order and, therefore, the Company has no long-term commitments from Unisys and
such customer generally may cancel orders on 30 days notice. Accordingly, there
can be no assurance that orders from Unisys will continue at their historic
levels, or that the Company will be able to obtain any new orders from Unisys.
The loss of Unisys as a customer, or the cancellation or rescheduling of orders
already placed, would materially and adversely affect the Company's business,
financial condition and operating results.
During the first quarter of 1997, the Company commenced selling products to
Tandem Computers Incorporated ("Tandem"). Sales to Tandem accounted for
approximately 6.5% of the
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Company's net sales in the quarter ended September 30, 1998. On March 24, 1998,
the Company announced that it had signed a corporate purchasing agreement with
Tandem pursuant to which Tandem has the ability to purchase Synchronix from the
Company and resell Synchronix under a private label with Tandem's own systems.
The Company's sales to Tandem are made by purchase order. Therefore, the Company
has no long-term commitments from Tandem and Tandem generally may cancel orders
upon appropriate written notice to the Company. There can be no assurance that
orders from Tandem will continue at their historic levels or that the Company
will be able to obtain any new orders from Tandem. Compaq Computer Corp.
("Compaq"), the corporate owner of Tandem, acquired Digital Equipment Corp.
("Digital"), a competitor of the Company, in 1998. Presently, it is too early to
accurately determine the impact, if any, of Compaq's acquisition of Digital on
the Company's direct sales to Tandem.
In August 1998, the Company executed an agreement with Hewlett Packard
Company ("HP") pursuant to which HP may resell the Company's Synchronix products
and services through HP's North American Local Product Organization. This
agreement provides the Company with an additional alternate channel partner. The
Company believes that HP provides ECCS with an established reseller capability
in a wide range of markets. In addition, HP customers will now be able to
acquire ECCS' product and services as part of an integrated HP solution. The
Company did not have any sales to HP in the third quarter of 1998. There can be
no assurance that the Company's sales of Synchronix products, or other products,
will increase as a result of its agreement with HP.
The Company continues efforts to establish potential OEM relationships for
specialized and standard versions of its Synchronix product line, in addition to
its relationships with Unisys and Tandem. There can be no assurance, however,
that such additional relationships will be established, or if established, that
they will decrease the Company's reliance on its previously established OEM
relationships with Unisys and Tandem.
Sales to the Company's commercial customers were $2,235 and accounted for
approximately 35.4% of net sales in the quarter ended September 30, 1998. Such
sales represent an 11% increase over sales to commercial accounts in the quarter
ended September 30, 1997. Such increase was primarily due to the Company's
continued focus on commercial sales of its Synchronix product line offering.
GROSS PROFIT
The Company's cost of sales includes primarily the cost of purchased
material, direct labor and related overhead expenses, and amortization of
capitalized software development costs. The Company's gross profit decreased by
approximately $544, to approximately $1,915 from $2,459 in the three months
ended September 30, 1997. Such decrease in gross profit is due primarily to the
lower volume of sales to the U.S. Air Force through a Federal integrator during
the third quarter of 1998, a large proportion of which consists of third party
components
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<PAGE>
integrated with the Company's proprietary mass storage enhancement products.
Third party components generally have lower margins than the Company's
proprietary products. As a result of lower sales to the U.S. Air Force, the
Company had a product mix that carries higher margins and, as a result, the
Company's gross profit percentage increased to 30.3% in the three months ended
September 30, 1998, as compared to 28.4% in the corresponding period in the
prior year.
OPERATING EXPENSES
Selling, general and administrative ("SG&A") expenses consist primarily of
salaries, commissions, and travel costs for sales and marketing personnel, trade
shows and expenses associated with the Company's management, accounting,
contract and administrative functions. The Company anticipates that SG&A
spending levels will decrease as a percentage of sales to the extent sales to
OEMs increase as a percentage of sales. Sales to OEMs typically absorb much of
the administrative burden otherwise incurred by the Company. In current periods,
however, SG&A expenses increased as a percentage of sales, representing 18.5%
and 35.2% of net sales for the three months ended September 30, 1997 and 1998,
respectively. SG&A expenses increased by $621, or 39%, to $2,222 in the three
months ended September 30, 1998 from $1,601 in the three months ended September
30, 1997. Such increase was due primarily to the hiring of additional sales and
marketing personnel and enhanced efforts to market new product developments,
offset, in part, by lower commissions resulting from lower sales volume. SG&A
increased as a percentage of revenue as a result of a combination of higher SG&A
expenses and lower sales volume. Salaries, commissions, bonuses, employee
benefits and payroll taxes were the largest components of SG&A expenses,
accounting for 64% of such expenses in each of both the three months ended
September 30, 1997 and September 30, 1998.
Research and development expenses consist primarily of salaries and
benefits paid to engineers and programmers and other related overhead expenses
associated with research and development personnel. These expenses increased in
the three months ended September 30, 1998 by $255, or 53.3%, from $478 in the
corresponding 1997 period. This increase is due primarily to the hiring of
additional engineers to continue the product development initiative associated
with the enhancements to the Company's proprietary mass storage products and to
the development of a new technology center. Such expenses for the third quarter
of 1998 represented approximately 11.6% of the Company's net sales and,
including the amount capitalized in accordance with SFAS No. 86, represented
approximately 15.9% of the Company's net sales. Research and development
expenses are anticipated to increase substantially in the near future to enable
the Company to update and expand upon its existing product offerings and to
integrate its products into the systems of future OEMs.
Research and development products for which the Company expects to devote
resources in the near future relate to (i) a next generation of the Synchronix
family of products; (ii) the development of a distributed file system storage
architecture; (iii) new interface connectivities; and (iv) customized OEM
products. The Company believes that the anticipated increase in its research and
development investment could adversely affect earnings in the next six months.
-14-
<PAGE>
NET INTEREST (INCOME) EXPENSE
Net interest income was $103 for the three months ended September 30, 1998,
while net interest expense was $58 for the three months ended September 30,
1997. Such fluctuation was due principally to higher cash balances resulting
from cash generated by the Company's follow-on public offering in August 1997
and a reduction in the borrowings against the Company's accounts receivable line
of credit.
EXTRAORDINARY ITEM
The extraordinary item for the three months ended September 30, 1997
consists primarily of a one-time charge incurred in connection with the
termination of the Company's financing facility with its former lender.
Simultaneously with such termination, the Company entered into a full recourse
factoring agreement with NationsBanc Commercial Corporation.
-15-
<PAGE>
Nine Months Ended September 30, 1997 and 1998
---------------------------------------------
NET SALES
Net sales decreased by approximately $5,483, or 20.7%, in the nine months
ended September 30, 1998, as compared to net sales in the nine months ended
September 30, 1997. Sales of the Company's proprietary mass storage enhancement
systems, including sales of certain third party component products, accounted
for 93.6% and 92.9% of net sales in the nine month period ended September 30,
1997 and 1998, respectively. As expected, sales by the Company in its capacity
as a VAR continued to be minimal and accounted for 1.0% and 2.1% of net sales in
the nine months ended September 30, 1997 and 1998, respectively. Services and
other revenues accounted for 5.4% and 5.0% of net sales in the nine months ended
September 30, 1997 and 1998, respectively. The decrease in the 1998 period
resulted primarily from a decrease in sales of the Company's mass storage
enhancement systems to the U.S. Air Force through a Federal integrator.
Sales to the U.S. Air Force through a Federal integrator were $5,983 and
accounted for approximately 28.5% of net sales in the nine months ended
September 30, 1998. Sales to the U.S. Air Force in the nine months ended
September 30, 1998 declined by approximately 57% as compared to such sales in
the nine months ended September 30, 1997. The Company believes that sales to the
U.S. Air Force will continue to comprise a significant portion of the Company's
net sales for the next 12 months. There can be no assurance that the U.S. Air
Force will continue to purchase from the Company at historical levels, if at
all.
Sales to alternate channel partners were $8,228 and accounted for
approximately 39.1% of net sales in the nine months ended September 30, 1998.
Such sales represent a 24% increase over sales to alternate channel partners in
the comparable period of 1997. Such increase is primarily attributable to the
Company's continued efforts to expand and enhance its alternate channel
relationships with both new and existing partners. Sales to the Company's
primary alternate channel partner, Unisys, accounted for approximately 26.4% of
the Company's net sales in the nine months ended September 30, 1998. There can
be no assurance that Unisys will continue to place orders with the Company or
that orders from Unisys will continue at their previous levels.
Sales to Tandem, another of the Company's alternate channel partners,
accounted for approximately 12.7% of the Company's net sales in the nine months
ended September 30, 1998.
Sales to the Company's commercial customers represented $6,815 and
accounted for approximately 32.4% of net sales in the nine months ended
September 30, 1998. Such sales represent a 14.3% increase over sales to
commercial accounts in the nine months ended September 30, 1997. Such increase
was primarily due to the Company's continued focus on commercial sales of its
Synchronix product line offering.
Certain sales previously classified as sales to commercial customers in the
nine months
-16-
<PAGE>
ended September 30, 1997 have been reclassified as sales to the U.S. Air Force
through a Federal Integrator for the nine months ended September 30, 1997. Such
reclassification has been reflected in the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1997.
GROSS PROFIT
The Company's gross profit decreased by approximately $1,139 in the nine
months ended September 30, 1998 to approximately $6,312 from $7,451 in the nine
months ended September 30, 1997. Such decrease in gross profit is due primarily
to the lower volume of sales to the U.S. Air Force through a Federal integrator
during the nine months ended September 30, 1998, a large portion of which
consists of third party components integrated with the Company's proprietary
mass storage enhancement products. Third party components generally have lower
margins than the Company's proprietary products. As a result of lower sales to
the U.S. Air Force, the Company had a product mix that carries higher margins
and, as a result, the Company's gross profit percentage increased to 30.0% in
the nine months ended September 30, 1998, as compared to 28.1% in the
corresponding period of the prior year.
OPERATING EXPENSES
SG&A expenses increased by $1,040, or 20.4%, to $6,127 in the nine months
ended September 30, 1998 from $5,087 in the nine months ended September 30,
1997. SG&A expenses increased as a percentage of net sales representing 19.2%
and 29.1% for the nine months ended September 30, 1997 and 1998, respectively.
Such increase was due primarily to the hiring of additional sales and marketing
personnel, coupled with enhanced efforts to market the Company's current and new
product offerings. SG&A increased as a percentage of revenue as a result of a
combination of higher SG&A expenses and lower sales volume. Salaries,
commissions, bonuses, employee benefits and payroll taxes were the largest
components of SG&A expenses, accounting for 62% and 64% of such expenses in the
nine months ended September 30, 1997 and September 30, 1998, respectively. The
Company anticipates that SG&A spending levels will decrease as a percentage of
sales to the extent sales to OEMs increase as a percentage of sales. Sales to
OEMs typically absorb much of the administrative burden otherwise incurred by
the Company.
Research and development expenses increased in the nine months ended
September 30, 1998 by $875, or 74.5%, from $1,174 in the corresponding period of
the prior year. This increase is due primarily to the hiring of additional
engineers to continue the product development initiative associated with the
enhancements to the Company's proprietary mass storage products and to the
development of a new technology center. Such expenses for the nine months ended
September 30, 1998 represented approximately 9.7% of the Company's net sales
and, including the amount capitalized in accordance with SFAS No. 86,
represented approximately 12.9% of the Company's net sales.
-17-
<PAGE>
NET INTEREST (INCOME) EXPENSE
Net interest income for the nine months ended September 30, 1998 was $319,
while net interest expense was $170 for the nine months ended September 30,
1997. Such fluctuation was due principally to higher cash balances resulting
from cash generated by the Company's follow-on public offering in August 1997
and a reduction in the borrowings against the Company's accounts receivable line
of credit.
LIQUIDITY AND CAPITAL RESOURCES (DOLLARS IN THOUSANDS, EXCEPT PER SHARE
INFORMATION)
Since 1994, the Company has funded its operations primarily from cash
generated by operations augmented with funds from borrowings under a line of
credit and inventory financing and through private and public sales of equity
securities. On September 30, 1998, the Company's cash balance was approximately
$9,000.
Net cash used in operating activities was $800 and $1,619 for the nine
months ended September 30, 1997, and September 30, 1998, respectively. Such use
of cash in 1998 resulted primarily from the net loss from operations. Net cash
provided by financing activities was $791 for the nine months ended September
30, 1998, while net cash provided by financing activities was $8,510 for the
nine months ended September 30, 1997. Such net cash provided by financing
activities for the nine months ended September 30, 1997 was primarily the result
of the follow-on offering which occurred in August 1997.
The Company used $311 and $1,112 for the acquisition of equipment by direct
purchase during such respective periods. Such expenditures in 1998 primarily
consisted of a capital investment associated with the Company's new
enterprise-wide ERP software system, as well as capital equipment relating to
the Company's research and development efforts. Total capital expenditures for
1998 are expected to be approximately $1,500, although such amounts are not
subject to formal commitments. The Company anticipates that such expenditures
will include the purchase of capital equipment for research and development and
general corporate use. There are no other material commitments for capital
expenditures currently outstanding. The net activities, under the Company's
accounts receivable financing facility, were payments of $1,762 and borrowings
of $379 for the nine months ended September 30, 1997 and 1998, respectively.
The Company's working capital was $15,300 and $13,100 at December 31, 1997
and September 30, 1998, respectively.
The Company terminated its financing facility with Fidelity Funding in July
1997. In connection with such termination, the Company incurred a one-time
extraordinary charge of $120. At the same time, on July 9, 1997, the Company
entered into a full recourse factoring facility with NationsBanc Commercial
Corporation ("NCC") which provides for aggregate advances not to exceed the
lesser of $7,000 or up to 85% of Eligible Receivables (as defined). Interest on
such advances is payable monthly in arrears at the prime lending rate and the
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<PAGE>
Company is obligated to pay certain annual fees. The factoring facility is for a
period of three years (unless terminated by NCC by providing the Company sixty
days prior written notice) beginning on July 30, 1997. The obligations of the
Company under such agreement are collateralized by substantially all of the
assets of the Company. As of September 30, 1998, the Company had $1,410
outstanding under this full recourse factoring facility.
The Company also has a general line of credit with the Finova Group Inc.
("Finova"). The agreement with Finova contains covenants relating to net worth,
total assets to debt and total inventory to debt. The Company's obligations
under the agreement with Finova are collateralized by substantially all of the
assets of the Company. On October 1, 1998, Finova increased such general line of
credit to $3,000 and extended it through January 31, 1999, on the same terms and
conditions.
The Company uses its line of credit with Finova to augment its purchasing
ability with various vendors. The maximum amount, during the preceding twelve
months, that the Company has drawn under such general line of credit has been
approximately $78. As of September 30, 1998, the Company had no balance
outstanding under this credit line, and available credit under such line towards
future inventory purchases was $2,000.
NCC and Finova have entered into an intercreditor subordination agreement
with respect to their relative interest in substantially all of the Company's
assets.
The Company's agreement with NCC restricts the Company's ability to pay
certain dividends without NCC's prior written consent. The Company's agreement
with Finova prohibits the payment of dividends. Dividend payments made to the
former holders of the Company's Series B Preferred Stock and Series C Preferred
Stock were made pursuant to waivers obtained by the Company.
During 1997, the Company utilized $222 of net operating loss carryover
("NOL") for federal tax purposes. The Company has a NOL for Federal income tax
purposes of approximately $7,174 which will begin to expire 2009. The Company
also has research and development tax credit carryovers for Federal income tax
purposes of approximately $226 which will begin to expire in 2009. In addition,
the Company has alternative minimum tax credits of approximately $68. These
credits can be carried forward indefinitely. The Company experienced a change in
ownership in 1996 as defined by Section 382 of the Internal Revenue Code.
Accordingly, future use of these NOLs and income tax credits may be limited.
The Company also has approximately $9,974 of state NOL carryforwards which
will begin to expire in 2001 and state research and development tax credit
carryforwards of $219 as of December 31, 1997.
Under SFAS No. 109, a valuation allowance is established, if based on the
weight of available evidence, it is more likely than not that a portion of the
deferred tax asset will not be
-19-
<PAGE>
realized. Accordingly, a full valuation allowance has been provided to offset
the Company's net deferred tax assets because the Company is in a cumulative
loss position. Such valuation allowance will be reassessed periodically by the
Company.
In February 1998, the Company's Board of Directors approved resolutions
authorizing the expenditure of up to $1,000 dollars for the research and
development of a distributed file system storage architecture and other
significant enhancements to the current Synchronix product family. As of
September 30, 1998, the Company expended approximately $204 on such research and
product developments.
On October 21, 1998 the Board of Directors unanimously voted in favor of
offering to all employees who were previously granted stock options an
opportunity to exchange such options for new stock options to purchase shares of
Common Stock of the Company, at an exercise price equal to $1.25 per share (the
"New Options"), the fair market value of the Company's Common Stock on such
date. The New Options are exercisable to the extent of one-half on each of the
first and second anniversary of the date of grant. The Company offered the New
Options in order to pursue its commitment to retain key employees, particularly
in light of the highly competitive labor market for technical personnel. On
November 5, 1998, the Company formally offered its employees the option to
exchange all outstanding options for the New Options pursuant to the terms of
the 1996 Stock Plan. The number of outstanding options to be exchanged for New
Options currently is not known.
Historically, certain computer programs have been written using two digits
rather than four to define the applicable year, which could result in the
computer recognizing a date using "00" as the year 1900 rather than the year
2000. This, in turn, could result in major system failures or miscalculations,
and is generally referred to as the "Year 2000 Problem." In December 1997, the
Company began developing an implementation plan for a new enterprise management
system to internally resolve the Year 2000 Problem. The Company expects to
complete such implementation by the first quarter of 1999. As part of the
process, the Company is currently evaluating options with respect to the
replacement of certain hardware and software to make its computer systems Year
2000 compliant. Presently, the Company does not believe that Year 2000
compliance will result in material investments by the Company, nor does the
Company anticipate that the Year 2000 Problem will have material adverse effects
on the business operations or financial performance of the Company. There can be
no assurance, however, that the Year 2000 Problem will not adversely affect the
Company's business, operating results and financial condition.
The Company believes that each of Synchronix, Synchronection-FT and Raven
UX 410 is Year 2000 compliant and has so advised its customers. However, the
Company has not performed a comprehensive test of such products to determine
that they are Year 2000 compliant. In addition, the Company has no control over
software modifications made by third parties or the combination of its products
with software programs or hardware that are not Year 2000 compliant or that
software developed by third parties and combined with the Company's
-20-
<PAGE>
products will be Year 2000 compliant. Additionally, there can be no assurance
that such potential instances of non-compliance will not adversely affect the
Company's business, operating results and financial condition. The Company has
established no reserves for expenses associated with correcting Year 2000
compliance issues or for any liability associated with such non-compliance.
Although the Company believes its products are Year 2000 compliant, the
purchasing patterns of customers and potential customers may be affected by
issues associated with the Year 2000 Problem. As companies expend significant
resources to correct their current data storage solutions, these expenditures
may result in reduced funds available to purchase products such as those offered
by the Company. There can be no assurance that the Year 2000 Problem will not
adversely affect the Company's business, operating results and financial
condition.
The Company believes that its existing available cash, credit facilities
and the cash flow expected to be generated from operations will be adequate to
satisfy its current and planned operations for at least the next 12 months.
The Company's operating results are affected by seasonal factors,
particularly the spending fluctuations of its largest customers including
Unisys, Tandem and the Federal government. Due to the relatively fixed nature of
certain of the Company's costs, a decline in net sales in any fiscal quarter
will have a material adverse effect on that quarter's results of operations. The
Company does not expect such spending fluctuations to be altered in the future.
A significant reduction in orders from any of the Company's largest customers
could have a material adverse effect on the Company's results of operations.
There can be no assurance that the Company's largest customers will continue to
place orders with the Company or that orders of its customers will continue at
their previous levels.
-21-
<PAGE>
PART II. OTHER INFORMATION
--------------------------
ITEM 5. OTHER INFORMATION.
EXECUTION OF ADDITIONAL ALTERNATE CHANNEL PARTNER AGREEMENT.
In August 1998 the Company executed an agreement with Hewlett Packard
Company ("HP") pursuant to which HP may resell the Company's Synchronix products
and services through HP's North American Local Product Organization. This
agreement provides the Company with an additional alternate channel partner. The
Company believes that HP provides ECCS with an established reseller capability
in a wide range of markets. In addition, HP customers will now be able to
acquire ECCS' product and services as part of an integrated HP solution. There
can be no assurance, however, that the Company's sales of Synchronix products,
or other products, will increase as a result of its agreement with HP.
INTRODUCTION OF SYNCHRONIX 2000.
At the end of the third quarter of 1998, the Company introduced Synchronix
2000, its next generation of high-performance, continuously available data
storage systems. Synchronix 2000 is uniquely packaged using independent
controller enclosure packaging, Array Controller Enclosure, and disk drive array
packaging, Disk Array Enclosure. The product includes redundant active/active
Raid controllers with dual Ultra SCSI host busses and fully protected mirrored
cache, combined with five Ultra SCSI data busses.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
11 Calculation of Earnings per Share.
27 Financial Data Schedule for the period ended 9/30/98.
(b) Reports on Form 8-K.
None.
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<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ECCS, Inc.
DATE: November 12, 1998 By:/s/ Gregg M. Azcuy
-------------------------------
Gregg M. Azcuy, President
and Chief Executive Officer
(Principal Executive Officer)
DATE: November 12, 1998 By:/s/ Louis J. Altieri
-------------------------------
Louis J. Altieri, Vice President,
Finance and Administration (Principal
Financial and Accounting Officer)
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<TABLE>
<CAPTION>
Exhibit 11
Calculation of Earnings per Share
(In Thousands) except for per Share Amount
Three Months Nine Months
Ended September 30, Ended September 30,
------------------- -------------------
1997 1998 1997 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net income (loss) before extraordinary item $ 322 $ (937) $ 1,020 $ (1,545)
Extraordinary item 120 -- 120 --
Net income (loss) 202 (937) 900 (1,545)
Preferred Dividends 38 -- 192 --
Net income (loss) applicable to common shares 164 (937) 708 (1,545)
Net income per share
before extraordinary item - Basic $ 0.05 $ -- $ 0.19 $ --
-------- -------- -------- --------
Net income (loss) per share - Basic $ 0.02 $ (.09) $ 0.13 $ (0.14)
-------- --------- -------- ---------
Net income per share
before extraordinary item - Diluted $ 0.04 $ -- $ 0.11 $ --
-------- -------- -------- --------
Net income per share - Diluted $ 0.03 $ (.09) $ 0.10 $ (0.14)
-------- --------- -------- ---------
Weighted average number of common and common
equivalent shares - Basic 6,911 10,998 5,288 10,959
Weighted average number of common and common
equivalent shares - Diluted 7,798 10,998 9,369 10,959
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
REGISTRANT'S UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS CONTAINED IN THIS FORM
10-Q FOR THE PERIOD ENDED September 30, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FORM 10-Q.
F1 -- This amount represents Basic Earnings per Share in accordance with the
requirements of Statement of Financial Accounting Standards No. 128 - "Earnings
per Share."
</LEGEND>
<CIK> 0000900619
<NAME> ECCS, Inc.
<MULTIPLIER> 1,000
<CURRENCY> U.S. Dollars
<S> <C>
<PERIOD-TYPE> 9-mos
<FISCAL-YEAR-END> Dec-31-1998
<PERIOD-START> Jan-01-1998
<PERIOD-END> Sep-30-1998
<EXCHANGE-RATE> 1
<CASH> 9,005
<SECURITIES> 0
<RECEIVABLES> 5,854
<ALLOWANCES> 230
<INVENTORY> 4,785
<CURRENT-ASSETS> 19,921
<PP&E> 6,166
<DEPRECIATION> 4,356
<TOTAL-ASSETS> 23,331
<CURRENT-LIABILITIES> 6,803
<BONDS> 0
0
0
<COMMON> 110
<OTHER-SE> 16,198
<TOTAL-LIABILITY-AND-EQUITY> 23,331
<SALES> 21,026
<TOTAL-REVENUES> 21,026
<CGS> 14,714
<TOTAL-COSTS> 6,127
<OTHER-EXPENSES> 2,049
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (319)
<INCOME-PRETAX> (1,545)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,545)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,545)
<EPS-PRIMARY> (0.14) <F1>
<EPS-DILUTED> (0.14)
</TABLE>
