<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------
FORM 8-K/A
CURRENT REPORT
AMENDMENT NO. 1
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported) November 24, 1998
---------------------------
LEVEL ONE COMMUNICATIONS, INCORPORATED
- -------------------------------------------------------------------------------
(Exact name of registrant as specified in charter)
Delaware 0-22068 33-0128224
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(State or other jurisdiction (Commission (IRS Employer
of incorporation) File Number) Identification No.)
9750 Goethe Road, Sacramento, CA 95827
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (916) 855-5000
----------------------------
NOT APPLICABLE
- -------------------------------------------------------------------------------
(Former name or former address, if changed since last report.)
<PAGE>
This Amendment No. 1 to the Registrant's Current Report on Form 8-K
dated December 9, 1998 (the "Report") is being filed in connection with the
completion of the Registrant's acquisition of Jato Technologies, Inc., a
Delaware corporation ("Jato"), by way of a merger of Thunderhill Acquisition
Corp., a Delaware corporation and wholly owned subsidiary of the Registrant,
with and into Jato (the "Merger") with Jato being the surviving corporation in
the Merger, pursuant to the terms and conditions set forth in the Agreement and
Plan of Reorganization, dated as of November 9, 1998, and previously filed as
Exhibit 2.1 to the Report. The purpose of this Amendment to the Report is to add
new Item 5 to provide for certain supplementary financial information.
ITEM 5. OTHER EVENTS.
The following supplemental consolidated financial statements of Level One
Communications, Incorporated (the "Company") reflecting the pooled operations of
Level One Communications, Incorporated and subsidiaries and Jato Technologies,
Incorporated, which was acquired by Level One Communications, Inc. on November
24, 1998, are filed as part of this report:
1. Management's Discussion and Analysis of Financial Condition and
Results of Operations for the fiscal years ended December 28, 1997
and December 29, 1996 to reflect the registrant's acquisition of
Jato.
2. Report of Independent Public Accountants.
3. Supplemental Consolidated Balance Sheets as of December 28, 1997
and December 29, 1996.
4. Supplemental Consolidated Statements of Income for the fiscal
years ended December 28, 1997, December 29, 1996 and
December 30, 1995.
5. Supplemental Consolidated Statements of Shareholders' Equity for
the fiscal years as of December 28, 1997, December 29, 1996 and
December 30, 1995.
6. Supplemental Consolidated Statements of Cash Flows for the fiscal
years ended December 28, 1997, December 29, 1996 and December 30,
1995.
7. Supplemental Unaudited Consolidated Balance Sheets as of March 29,
1998, June 28, 1998, September 27, 1998 and December 28, 1997
8. Supplemental Unaudited Consolidated Statements of Income for each
of the three months ended March 29, 1998, June 28, 1998, September
27, 1998, March 30, 1997, June 29, 1997, and September 28, 1997
and the nine months ended September 27, 1998 and September 28,
1997.
9. Supplemental Unaudited Consolidated Statements of Cash Flows for
the three months ended March 29, 1998 and March 30, 1997, six
months ended June 28, 1998 and June 29, 1997, and the nine months
ended September 27, 1998 and September 28, 1997.
10. Management's' Discussion and Analysis of Financial Condition and
Results of Operations.
2
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
OVERVIEW
On November 24, 1998 the Company merged with Jato Technologies, Inc. in a
transaction accounted for as a pooling-of-interests. The management discussion
and analysis below reflects the pooled entity.
Since its inception, the Company has designed, developed and marketed
application specific standard product ("ASSP") integrated circuits and custom
derivatives for the telecom and networking markets. Volume shipments of its
initial ASSPs began in 1989. Since that time, the Company has experienced
significant increases in sales as its mixed-signal integrated circuits have
gained market acceptance. The Company's annual revenue compound growth rate has
been 101% since 1990. The Company first achieved profitable operations in the
quarter ended March 28, 1992.
The Company derives revenues principally from product sales. In addition, the
Company has received non-recurring engineering and licensing revenue from
strategic partners and customers in connection with product development
projects. As a result of those and other transactions, the Company receives
royalties and license fees.
The Company's cost of sales includes the costs of wafer fabrication and assembly
performed by third party vendors, and costs associated with the procurement,
scheduling, testing and quality assurance functions performed by the Company.
Research and development expenses associated with non-recurring engineering
contracts are expensed as incurred, while the related revenue is recognized only
as contract milestones are completed.
This report contains forward-looking statements that involve risks and
uncertainties. The statements contained in this report that are not purely
historical are forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934, including without limitation statements regarding the Company's
expectations, beliefs, intentions or strategies regarding the future. All
forward-looking statements included in this document are based on information
available to the Company on the date hereof, and the Company assumes no
obligation to update any such forward-looking statements. The Company's actual
results could differ materially from those anticipated in these forward-looking
statements.
3
<PAGE>
RESULTS OF OPERATIONS
REVENUES: Revenues for 1997 increased to $156.5 million from $112.0 million in
1996 and $78.0 million in 1995. The continued growth in revenues is due to the
successful introduction of new products and increased sales of existing products
to customers in the Company's two target market segments - telecom and
networking. In 1997 and 1995, no single customer accounted for more than 10% of
revenues. In 1996, sales to Hewlett-Packard were 11.2% of total sales.
Export sales, primarily consisting of sales to Canada, Europe, and Asia, were
35% of revenues in 1997, 39% in 1996 and 33% in 1995. All sales were in U.S.
dollars, thereby eliminating any foreign currency impact on revenues and net
income. The dollar increase in international sales is attributable to increased
sales to foreign manufacturing facilities and subcontractors of domestic
customers and the Company's increased international marketing and sales efforts.
ROYALTIES, LICENSES AND NON-RECURRING ENGINEERING REVENUE: The Company has
entered into development agreements with certain customers relating to
customer-specific applications, as well as license agreements with certain
semiconductor manufacturers. Revenue is not recognized for non-recurring
engineering ("NRE") contracts until contract milestones are met, although
expenditures associated with the contract are expensed as incurred. During 1997,
the Company had $56,000 in revenues from NRE contracts versus $398,000 in 1996
and $289,000 in 1995. In 1997, the Company received royalties of $987,000. In
1996 and 1995, royalties were $197,000 and $312,000, respectively.
The Company believes future revenue growth will depend on the success and timing
of new products along with continued sales growth of existing products. New
products are generally incorporated into a customer's product or system at the
design stage. However, design wins may precede volume sales by six months or
more. No assurance can be given that any design win will result in future
revenues.
GROSS MARGIN: The following table sets forth the Company's product sales and
product gross margin:
<TABLE>
<CAPTION>
(DOLLARS IN THOUSANDS)
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Product Sales $155,457 $111,392 $77,417
Cost of product sales 65,583 48,477 33,300
-------- -------- -------
Gross margin $ 89,874 $ 62,915 $44,117
-------- -------- -------
-------- -------- -------
Gross product margin % 57.8% 56.5% 57.0%
</TABLE>
4
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Product gross margin is affected by several factors, including average selling
prices, the mix between older and newer products, test equipment utilization,
manufacturing yields, timing of cost reductions and the mix between direct and
distributor sales. Margins on domestic and international sales are similar.
Beginning in 1996, certain engineering costs associated with product cost
reduction efforts were more appropriately allocated to cost of product sales
rather than research and development. This caused margins to decline by
approximately 2.0 percentage points in 1996, while reducing research and
development expense a similar amount. There was no net impact on operating
profit.
RESEARCH AND DEVELOPMENT: Research and development ("R&D") expenses were $37.8
million in 1997, $26.9 million in 1996 and $18.0 million in 1995. As a percent
of revenues, R&D expenses were 24.1%, 24.0%, and 23.0% in 1997, 1996 and 1995,
respectively. In 1996, R&D expense included a one-time charge for purchased
research and development of $2.5 million related to the acquisition of Silicon
Design Experts, Inc. In 1995, R&D expense included a one-time charge for
purchased research and development of $750,000 associated with the acquisition
of San Francisco Telecom, Inc. Excluding one time charges, R&D expense as
percent of revenues was 21.8% and 22.1% for 1996 and 1995, respectively. As
previously stated in the gross margin section, in 1996 the Company began
accounting for engineering costs associated with product cost reduction efforts
in cost of product sales, rather than R&D.
SALES AND MARKETING: Sales and marketing expenses were $26.5 million in 1997,
$17.2 million in 1996 and $11.4 million in 1995. As a percent of revenue, sales
and marketing expenses were 17.0%, 15.3% and 14.6% in 1997, 1996 and 1995,
respectively. The increases in sales and marketing expenses are largely due to
increased sales, sales support and application engineering headcount and
associated expense increases. The Company has also increased its international
sales offices and support staff.
GENERAL AND ADMINISTRATIVE: General and administrative expenses increased to
$12.5 million in 1997 from $7.5 million in 1996 and $5.8 million in 1995. As a
percentage of revenue, expenses were 8.0% in 1997, compared to 6.7% in 1996 and
7.5% in 1995. The expense increases in dollars are primarily attributable to
additional headcount and associated expenses due to the Company's growth.
NET INTEREST AND OTHER INCOME: The Company earns interest on its cash and
investments and incurs interest expense on its convertible subordinated notes
and on lease obligations used to finance certain capital equipment. Net interest
and other income for 1997, 1996 and 1995 was $1.9 million, $2.3 million and $2.1
million, respectively. In 1996, other income included a one-time gain of
$675,000 from the sale of a portion of the Company's investment in Maker
Communications.
5
<PAGE>
PROVISION FOR INCOME TAXES: The Company's effective income tax rate was 59.1%
for 1997. In 1996 and 1995, the effective rate was 44.9% and 12.5%,
respectively. For a reconciliation of the Company's effective tax rate to the
statutory federal tax rate, see Note 7 of Notes to Supplemental Financial
Statements.
LIQUIDITY AND CAPITAL RESOURCES
During the years ended 1997, 1996 and 1995, the Company financed its operations
primarily through cash flows from operations and existing cash and investment
balances. During the third quarter of 1997 the Company raised $115 million (less
discounts, commissions and expenses of approximately $3.5 million) from a
private placement to qualified investors of subordinated convertible notes due
2004 with a 4% coupon. Working capital as of December 28, 1997, was $158.7
million.
The Company's principal sources of liquidity as of December 28, 1997, consisted
of $140.3 million in cash and short-term investments and $10.0 million available
under the Company's line of credit. As of December 28, 1997, the Company had no
outstanding balance under this line of credit. During 1997 the Company obtained
$5.9 million from the issuance of notes to a bank and certain shareholders.
During 1997, the Company generated $15.1 million of cash from its operating
activities as compared to $21.6 million in 1996 and $7.4 million in 1995. In
1997, trade accounts receivable increased by $12.5 million due to increased
sales levels. Inventories increased by $16.7 million to $26.7 million at the end
of 1997. Days of inventory on hand were 148 days at the end of 1997 and 75 days
at the end of 1996. Current liabilities increased $32.5 million from year end
1996 to 1997.
During 1997, 1996, and 1995, total expenditures for capital equipment were
$19.4 million, $10.3 million, and $10.2 million, respectively. The
expenditures in each year were primarily for equipment to be used for
designing and testing products. Additionally, expenditures for equipment
financed by capital leases were $0.7 million in 1996 and $4.8 million in 1995.
The Company's current wafer requirements are supplied primarily by six
foundries. During 1995, the Company entered into five-year agreements with three
of its suppliers for committed foundry capacity in consideration of equipment
financing or cash deposits. At December 28, 1997, the Company had provided an
aggregate of $20.6 million in capital equipment financing and/or cash deposits
to these foundries to obtain committed foundry capacity. During the first
quarter of 1998, the Company paid an aggregate $1.3 million in additional
deposits per its agreements. There are no additional deposits due under the
Company's existing foundry agreements. During the first quarter of 1999, the
Company received $15.0 million in deposit refunds as part of the wafer
capacity agreements.
6
<PAGE>
The Company expects to finance its 1998 capital equipment requirements using a
combination of cash and equipment leasing. The Company believes that its
existing cash resources, combined with cash generated from operations, equipment
lease management, and its line of credit will be sufficient to meet the
Company's cash requirements through the end of 1998. However, the Company may
from time to time seek additional equity or debt financing as a result of the
capital intensive nature of the semiconductor industry.
YEAR 2000 COMPLIANCE
We are currently in the process of determining whether there are any critical
areas in our business that are not Year 2000 compliant. We have begun a
comprehensive project to prepare our computer systems for the Year 2000. We
presently estimate that the total cost of addressing our Year 2000 problems will
be approximately $100,000, of which approximately 5% has been expended to date.
This cost estimate was derived utilizing numerous assumptions, including the
assumption that we have already identified our most significant Year 2000
problems and that the assessment, remediation and contingency plans of our third
party suppliers will be fulfilled in a timely manner without significant
additional cost to us. We believe that there is a remote possibility of an
adverse impact on our business due to problems with our internal systems or
products. Our products have no date specific functions or date dependencies and
will operate according to published specifications through the Year 2000 and
dates into the 21st century. As part of our Year 2000 assessment, we are
contacting key suppliers of products and services to determine whether such
suppliers' operations, products and services are Year 2000 capable and/or to
monitor their progress toward Year 2000 compliance. If our suppliers are not
Year 2000 compliant, we could experience manufacturing interruptions or
shutdowns, decreased yields, quality inconsistencies, delayed or inaccurate
product testing, delivery delays, or service interruptions. It is possible that
one or more of these problems could have a material adverse effect on our
business, financial condition, or results of operations. There is also a risk
because we have not yet fully developed Year 2000 contingency plans to address
any failure of our Year 2000 assessment to identify and remediate significant
Year 2000 risks to our business operations. Development of contingency plans is
in progress and will continue during calendar year 1999. Such plans could
include accelerating replacement of affected equipment or software, using
back-up equipment and software, developing temporary manual procedures to
compensate for system deficiencies, and identifying Year 2000 capable suppliers
and service providers. There can be no assurance that any such contingency plans
would adequately address the Year 2000 problem. The failure to develop a
successful contingency plan could result in significant delays and inefficiency
in our business which could have a material adverse effect on our business,
financial condition and results of operations.
7
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SUBSEQUENT EVENTS
On December 30, 1998, the Company amended its Certificate of Incorporation to be
reincorporated in the state of Delaware.
On November 28, 1995, the Company initiated a patent infringement suit against
Seeq Technologies, Inc. in United States District Court for the Northern
District of California. The suit relates to two Level One patents, No. 5,267,269
and No. 5,249,183, and to certain Seeq products used in Ethernet system
products. The suit was settled on September 25, 1998. The terms of the
settlement are confidential.
8
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Level One communications, Incorporated:
We have audited the consolidated balance sheets of LEVEL ONE COMMUNICATIONS,
INCORPORATED (a Delaware corporation) and subsidiaries as of December 28, 1997
and December 29, 1996, and the related consolidated statements of income,
shareholders' equity and cash flows for each of the three fiscal years in the
period ended December 28, 1997 and have issued our unqualified report thereon
dated March 13, 1998. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We have also made similar audits of the accompanying supplemental consolidated
balance sheets of Level One Communications, Incorporated and subsidiaries as of
December 28, 1997 and December 29, 1996, and the related supplemental
consolidated statements of income, shareholders' equity and cash flows for each
of the three fiscal years in the period ended December 28, 1997. The
supplemental consolidated statements give retroactive effect to the mergers with
Acclaim Communications, Incorporated on July 6, 1998, and Jato Technologies,
Incorporated, on November 24, 1998, which have been accounted for as
poolings-of-interests as described in Note 1. These supplemental financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these supplemental financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the supplemental consolidated financial statements referred to
above present fairly, in all material respects, the financial position of Level
One Communications, Incorporated and subsidiaries as of December 28, 1997 and
December 29, 1996, and the results of their operations and their cash flows for
each of the three fiscal years in the period ended December 28, 1997, after
giving retroactive effect to the mergers with Acclaim Communications,
Incorporated and Jato Technologies, Incorporated as described in Note 1, in
conformity with generally accepted accounting principles.
/s/ Arthur Andersen LLP
Sacramento, California
February 2, 1999
9
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL CONSOLIDATED BALANCE SHEETS
As of December 28, 1997 and December 29, 1996
<TABLE>
<CAPTION>
(IN THOUSANDS)
1997 1996
------------ ------------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents $ 27,694 $ 23,301
Short-term investments 112,560 10,211
Trade accounts receivable, net of allowance
for doubtful accounts of $343 and $156 for 1997
and 1996, respectively 30,191 17,671
Other receivables 2,473 608
Inventories 26,699 9,990
Other current assets 7,108 4,927
----------- ------------
Total current assets 206,725 66,708
Property and equipment, net 34,050 24,140
Long-term investments 21,559 12,440
Foundry deposits 14,000 8,000
Other assets 7,428 4,444
----------- -----------
Total assets $283,762 $ 115,732
----------- -----------
----------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Notes payable $ 5,949 $ -
Current portion of capital lease obligations 1,211 1,129
Accounts payable 22,890 5,194
Accrued payroll costs 4,719 2,210
Deferred revenue 5,171 3,039
Other accrued liabilities 8,046 3,958
----------- -----------
Total current liabilities 47,986 15,530
Convertible subordinated notes 115,000 -
Capital lease obligations, less current portion 2,175 3,217
Deferred lease expense 300 612
----------- -----------
Total liabilities 165,461 19,359
Shareholders' Equity:
Common Stock, no par value 102,898 87,529
Authorized - 236,250 shares
Outstanding - 36,153 and 32,492 shares for
1997 and 1996, respectively
Unrealized gain on investments 18 12
Retained earnings 15,385 8,832
----------- ----------
Total shareholders' equity 118,301 96,373
----------- ----------
Total liabilities and shareholders' equity $ 283,762 $ 115,732
----------- ----------
----------- ----------
</TABLE>
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
10
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF INCOME
For Fiscal Year Ended December 28, 1997,
December 29, 1996 and December 30, 1995
<TABLE>
<CAPTION>
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1997 1996 1995
--------------- --------------- ---------------
<S> <C> <C> <C>
Revenues $ 156,500 $ 111,987 $ 78,018
Cost of revenues 65,583 48,477 33,300
--------------- --------------- ---------------
Gross margin 90,917 63,510 44,718
Research and development * 37,757 26,923 17,963
Sales and marketing 26,532 17,154 11,414
General and administrative 12,507 7,487 5,839
--------------- --------------- ---------------
Total operating expenses 76,796 51,564 35,216
Operating income 14,121 11,946 9,502
Interest income 4,037 1,884 2,115
Interest expense (2,359) (352) (157)
Other income 204 729 113
--------------- --------------- ---------------
Income before provision for income taxes 16,003 14,207 11,573
Provision for income taxes 9,450 6,374 1,442
--------------- --------------- ---------------
Net income $ 6,553 $ 7,833 $ 10,131
--------------- --------------- ---------------
--------------- --------------- ---------------
Basic earnings per share $ 0.19 $ 0.25 $ 0.35
--------------- --------------- ---------------
--------------- --------------- ---------------
Diluted earnings per share $ 0.18 $ 0.24 $ 0.33
--------------- --------------- ---------------
--------------- --------------- ---------------
</TABLE>
* Includes one time charges for acquisitions of $2,500 and $750 for 1996 and
1995, respectively
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
11
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LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
For the Fiscal Years Ended December 28, 1997,
December 29, 1996, and December 30, 1995
<TABLE>
<CAPTION>
(IN THOUSANDS)
Common Stock Retained
--------------------- Deferred Unrealized Earnings
Shares Amount Compensation Gain (Loss) (Deficit) Total
---------- ---------- ------------------------------------------ -----------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1994 $ 28,083 $ 72,442 $ (1) $ - $ (9,132) $ 63,309
Shares issued in Acclaim business combination 2,227 720 - - - 720
Issuance of common stock under stock option
and purchase plans 492 431 - - - 431
Issuance of common stock upon exercise of
warrants 9 19 - - - 19
Tax benefit of stock option exercises - 2,418 - - - 2,418
Stock issued in connection with acquisitions 305 2,462 - - - 2,462
Unrealized gain on available-for-sale
investments, net of tax - - - 67 - 67
Amortization of deferred compensation expense - - 1 - - 1
Net income - - - - 10,131 10,131
--------------------- --------------- ------------ ----------- -----------
Balance at December 30, 1995 31,116 78,492 - 67 999 79,558
Shares issued in Acclaim business combination 537 3,380 - - - 3,380
Shares issued in Jato business combination 216 200 - - - 200
Issuance of common stock under stock option
and purchase plans 423 1,242 - - - 1,242
Issuance of common stock upon exercise of
warrants 5 10 - - - 10
Tax benefit of stock option exercises - 1,205 - - - 1,205
Stock issued in connection with acquisitions 195 3,000 - - - 3,000
Unrealized loss on available-for-sale
investments, net of tax - - - (55) - (55)
Net income - - - - 7,833 7,833
---------- ---------- --------------- ------------ ----------- -----------
Balance at December 29, 1996 32,492 87,529 - 12 8,832 96,373
Shares issued in Acclaim business combination 11 597 - - - 597
Shares issued in Jato business combination 2,322 6,105 - - - 6,105
Issuance of common stock under stock option
and purchase plans 894 3,538 - - - 3,538
Issuance of common stock upon exercise of
warrants 434 - - - - -
Tax benefit of stock option exercises - 5,129 - - - 5,129
Unrealized gain on available-for-sale
investments, net of tax - - - 6 - 6
Net income - - - - 6,553 6,553
---------- ---------- --------------- ------------ ----------- -----------
Balance at December 28, 1997 $ 36,153 $102,898 $ - $ 18 $ 15,385 $ 118,301
---------- ---------- --------------- ------------ ----------- -----------
---------- ---------- --------------- ------------ ----------- -----------
</TABLE>
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
12
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF CASH FLOWS
For Fiscal Years Ended December 28, 1997, December 29, 1996
and December 30, 1995
<TABLE>
<CAPTION>
(IN THOUSANDS) 1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 6,553 $ 7,833 $ 10,131
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 10,592 7,560 5,222
Purchased research & development expenses - 2,500 750
Changes in assets and liabilities, net of effect of
acquisition:
Trade receivables (12,520) (3,259) (8,832)
Other receivables (1,865) 370 (189)
Inventories (16,709) 5,782 (9,268)
Deferred income tax benefit (1,546) 1,785 (977)
Other current assets (695) 236 (1,184)
Accounts payable and accrued liabilities 29,422 (3,296) 11,604
Deferred revenues 2,132 2,175 -
Deferred lease expense (312) (133) 97
------------ ------------ ------------
Net cash provided by operating activities 15,052 21,553 7,354
------------ ------------ ------------
------------ ------------ ------------
Cash flows from investing activities:
Purchase of short-term investments (155,195) (12,754) (8,042)
Proceeds from sales and maturities of short-term investments 52,852 10,711 31,027
Purchase of long-term investments (42,900) (11,780) (3,681)
Proceeds from sales and maturities of long-term investments 33,781 4,035 2,200
Purchase of property and equipment (19,372) (10,281) (10,166)
Payments (receipts) for related party notes receivable 1,225 (1,225)
Payments for foundry deposits and other assets (6,007) (6,151) (4,081)
------------ ------------ ------------
Net cash (used in) provided by investing activities (136,841) (24,995) 6,032
------------ ------------ ------------
Cash flows from financing activities:
Net principal payments under capital lease obligations (960) (527) (569)
Proceeds from issuance of convertible subordinated notes,
net of acquisition costs 111,539
Proceeds from issuance of notes 5,949
Proceeds from issuance of stock, net of
repurchases and costs of issuance 9,654 4,766 427
------------ ------------ ------------
Net cash provided by (used in) financing activities 126,182 4,239 (142)
------------ ------------ ------------
Net increase in cash and cash equivalents 4,393 797 13,244
Cash and cash equivalents at beginning of year 23,301 22,504 9,260
------------ ------------ ------------
Cash and cash equivalents at end of year $ 27,694 $ 23,301 $ 22,504
------------ ------------ ------------
------------ ------------ ------------
Supplementary disclosure of cash and noncash transactions
Non-cash investing and financing activities:
Issuance of common stock in exchange for marketable
securities $ - $ 750 $ -
Issuance of warrants 586 - -
Equipment purchased under capital leases - 749 4,770
Tax benefit related to stock options 5,129 1,205 2,418
Unrealized gain (loss) on available-for-sale securities,
net of tax 6 (55) 67
Cash payments for:
Interest 616 351 142
Income taxes 3,861 2,564 1,268
</TABLE>
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
13
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. ORGANIZATION AND DESCRIPTION OF BUSINESS
Level One Communications, Incorporated (the "Company") was incorporated in
California on November 26, 1985.
The Company designs, develops and markets application specific standard product
("ASSP") integrated circuits and custom derivatives for high-speed digital
signal transmission and networking connectivity to systems that transport
information within an office or around the world. Such systems connect to local
area networks ("LANs"), wide area networks ("WANs") and public telephone
transmission networks. LANs, WANs, and telephone transmission networks make
possible such activities as the use of intra-enterprise networking ("intranets")
and the use of the Internet and World Wide Web.
On July 6, 1998, the Company completed a business combination with Acclaim
Communications, Inc. ("Acclaim") which is a provider of Fast Ethernet and
Gigabit Ethernet switches and integrated Multi-Service access products. The
combination was a stock for stock merger that was accounted for as a
"pooling-of-interests." In connection with the merger, the Company issued
3,961,374 shares of common stock, and assumed 780,278 stock options and
256,485 warrants in exchange for all the outstanding stock, options and
warrants of Acclaim.
On November 24, 1998, the Company completed a business combination with Jato
Technologies, Inc. ("Jato") which is a silicon provider of high performance,
multi-speed Gigabit Ethernet controller technology. The combination was a stock
for stock merger that was accounted for as a "pooling-of-interests." In
connection with the merger, the Company issued 2,551,152 shares of common stock,
and assumed 486,088 stock options in exchange for all the outstanding stock and
options of Jato.
The accompanying supplemental consolidated financial statements have been
restated to include the accounts of Acclaim and Jato as if the companies had
combined at the beginning of the first period presented.
14
<PAGE>
There were no significant transactions between the Company and Acclaim nor
between the Company and Jato prior to the combination and no adjustments were
necessary to conform either Acclaim's or Jato's accounting policies. The results
of operations for the separate companies and the combined amounts presented in
the supplemental consolidated statements of income are as follows:
<TABLE>
<CAPTION>
(IN THOUSANDS)
1997 1996 1995
-------------- --------------- ---------------
<S> <C> <C> <C>
Revenue
The Company $ 156,262 $ 111,987 $ 78,018
Acclaim 238 - -
Jato - - -
-------------- --------------- ---------------
$ 156,500 $ 111,987 $ 78,018
-------------- --------------- ---------------
-------------- --------------- ---------------
Net Income (Loss)
The Company $ 19,191 $ 11,213 $ 10,258
Acclaim (9,518) (3,160) (127)
Jato (3,120) (220)
-------------- --------------- ---------------
$ 6,553 $ 7,833 $ 10,131
-------------- --------------- ---------------
-------------- --------------- ---------------
</TABLE>
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION. The Company prepares financial statements on a 52-53 week
year. During the 3rd Quarter of Fiscal 1996, the Company changed its fiscal year
end from the last Saturday nearest to the calendar year end to the last Sunday
nearest the calendar year end.
The supplemental consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries. Significant intercompany accounts and
transactions have been eliminated.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
All share and per share numbers in this Report have been restated to reflect the
effect of stock splits described in Note 7. Additionally, in connection with the
stock splits, proportional adjustments were made to the outstanding stock
options, warrants and other outstanding obligations of the Company to the shares
of common stock.
CASH AND CASH EQUIVALENTS. For purposes of the supplemental consolidated balance
sheets and statements of cash flows, the Company considers all highly liquid
debt instruments purchased with an original maturity of three months or less to
be cash equivalents. Cash and cash equivalents consist of cash deposited with
financial institutions and securities investment companies.
15
<PAGE>
INVESTMENTS. The Company accounts for investments pursuant to Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" ("SFAS 115"). SFAS 115 requires that investments be
classified into one of three categories: held-to-maturity, available-for-sale,
or trading. It requires that investments classified as held-to-maturity be
reported at amortized cost, that investments classified as available-for-sale be
reported at fair value with unrealized gains and losses, net of related tax,
reported as a separate component of shareholders' equity, and that investments
classified as trading be reported at fair value with unrealized gains and losses
included in earnings. As of December 28, 1997 and December 29, 1996, all of the
Company's investments are classified as available-for-sale and are carried at
fair value. As of December 28, 1997, and December 29, 1996, the Company's
shareholders' equity reflected an unrealized gain, net of applicable taxes, of
$18,000 and $12,000, respectively.
16
<PAGE>
The amortized cost and market values of the Company's available-for-sale
investments as of December 28, 1997 and December 29, 1996, were as follows:
<TABLE>
<CAPTION>
December 28, 1997
(IN THOUSANDS) Amortized Cost Gross Unrealized Gross Unrealized Market Value
Gains Losses
------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Municipal bonds $ 11,528 $ 24 $ - $ 11,552
Corporate debt and equity securities 122,561 36 30 122,567
------------------ ----------------- ----------------- -----------------
$ 134,089 $ 60 $ 30 $ 134,119
------------------ ----------------- ----------------- -----------------
------------------ ----------------- ----------------- -----------------
</TABLE>
<TABLE>
<CAPTION>
December 29, 1996
(IN THOUSANDS) Amortized Cost Gross Unrealized Gross Unrealized Market Value
Gains Losses
------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Municipal bonds $ 20,531 $ 29 $ 3 $ 20,557
Corporate debt and equity securities 2,100 - 6 2,094
------------------ ----------------- ----------------- -----------------
$ 22,631 $ 29 $ 9 $ 22,651
------------------ ----------------- ----------------- -----------------
------------------ ----------------- ----------------- -----------------
</TABLE>
The amortized cost and market values of the Company's available-for-sale
investments, by maturity, at December 28, 1997, were as follows:
<TABLE>
<CAPTION>
December 28, 1997
----------------------------------
(IN THOUSANDS) Amortized Cost Market Value
<S> <C> <C>
Due in one year or less $ 112,536 $ 112,560
Due after one year through five years 21,553 21,559
---------------- ----------------
$ 134,089 $ 134,119
---------------- ----------------
---------------- ----------------
</TABLE>
Proceeds from the sale of available-for-sale investments during fiscal 1997 and
1996 were $86.6 million and $14.7 million, respectively. The cost basis used in
determining realized gains and losses is specific identification. During 1997,
gross gains of $20,000 with no losses were realized, and gross gains of $1,000
and gross losses of $32,000 were realized in 1996.
FINANCIAL INSTRUMENTS. The following methods and assumptions were used by the
Company in estimating its fair value disclosures for financial instruments: For
cash and cash equivalents, accounts receivable, trade accounts payable, notes
payable and convertible subordinated notes, the carrying value is a reasonable
estimate of fair value. For investments, fair values are based on quoted market
prices or dealer quotes.
17
<PAGE>
INVENTORIES. Inventories are stated at the lower of cost (first in, first out
method) or market and include materials, labor and manufacturing overhead costs.
Inventories as of December 28, 1997 and December 29, 1996 consisted of:
<TABLE>
<CAPTION>
(IN THOUSANDS)
1997 1996
-------------------- --------------------
<S> <C> <C>
Raw materials $ 9,133 $ 32
Work-in-process 13,412 7,948
Finished goods 4,154 2,010
-------------------- --------------------
Total inventories $ 26,699 $ 9,990
-------------------- --------------------
-------------------- --------------------
</TABLE>
PROPERTY AND EQUIPMENT. Property and equipment are recorded at cost.
Depreciation is provided on a straight-line basis over the following estimated
useful lives:
Machinery and equipment 3-5 years
Furniture and fixtures 3-5 years
Leasehold improvements 3-10 years
Property and equipment, net, is comprised of the following:
<TABLE>
<CAPTION>
(IN THOUSANDS)
1997 1996
----------------- ------------------
<S> <C> <C>
Machinery and equipment $ 37,370 $ 25,667
Furniture and fixtures 19,807 12,061
Leasehold improvements 3,407 3,485
----------------- ------------------
60,584 41,213
Less-Accumulated depreciation (26,534) (17,073)
----------------- ------------------
$ 34,050 $ 24,140
----------------- ------------------
----------------- ------------------
</TABLE>
PATENT COSTS. Patent costs include direct costs of obtaining the patents. Upon
patent approval, patent costs are amortized over the estimated useful life of
the patent using the straight-line method.
REVENUE RECOGNITION. Product sales are generally recognized upon shipment of
product. However, the Company defers recognition of revenues and gross margin
from sales to stocking distributors until such distributors resell the related
products to their customers. The Company has deferred recognition of gross
margin amounting to $5,171,000, $3,039,000, and $1,300,000 as of December 28,
1997, December 29, 1996, and December 30, 1995, respectively. During 1997 and
1995 no single customer accounted for more than 10% of revenues. In 1996, sales
to Hewlett-Packard were 11.2% of total sales.
18
<PAGE>
Export sales as a percentage of revenues were 35%, 39%, and 33% for 1997, 1996,
and 1995, respectively.
The Company from time to time enters into development, license and royalty
agreements with certain customers related to customer-specific applications.
Related costs are expensed as incurred and are included in research and
development expenses, while revenue for non-recurring engineering contracts is
deferred until contract milestones are met. Royalty income is recognized in the
period that the income is earned. During 1997, 1996, and 1995, the Company
recognized revenues of $1,043,000, $595,000, and $601,000, respectively, in
accordance with the contract milestones in the Company's agreements.
In 1996, the Company entered into a four year development and license agreement
with a company to develop certain technologies and receive license, development
and royalty fees through the term of the agreement. As of December 31, 1997, the
Company has received payments totaling $2,675,000 under this development and
license agreement. The agreement called for certain performance milestones which
have not been met as of December 28, 1997. Disputes among the parties have
arisen as to who is responsible for not meeting the required milestones.
Development on this project has ceased. The agreement includes certain
provisions which could require refunding of all proceeds received to date. The
parties are negotiating a settlement of these matters. No revenue was recognized
under this agreement until such time as the dispute is resolved. This matter was
settled on September 9, 1998 with a payment of $750,000 by the Company and a
mutual release.
Revenues are comprised of the following:
<TABLE>
<CAPTION>
(IN THOUSANDS)
1997 1996 1995
-------------- -------------- ---------------
<S> <C> <C> <C>
Product sales $ 155,457 $ 111,392 $ 77,417
Royalties, licenses and non-recurring
engineering revenue 1,043 595 601
-------------- -------------- ---------------
Total revenues $ 156,500 $ 111,987 $ 78,018
-------------- -------------- ---------------
-------------- -------------- ---------------
</TABLE>
INCOME TAXES. The Company accounts for income taxes pursuant to Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes." This
statement provides for a liability approach under which deferred income taxes
are provided based upon enacted tax laws and rates applicable to the periods in
which the taxes become payable.
STOCK BASED COMPENSATION. As of December 31, 1995, the Company adopted Statement
of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"). SFAS 123 defines a fair-value-based method of
accounting for stock-based compensation. As permitted by SFAS 123, the Company
has not changed its method of accounting for stock options but has provided the
additional required disclosures. The Company recognized no compensation expense
related to stock options in 1997.
19
<PAGE>
EARNINGS PER SHARE. In February 1997, the Financial Accounting Standards Board
(the "FASB") issued SFAS 128, "Earnings Per Share," which establishes standards
for computing and presenting earnings per share ("EPS"). It replaces the
presentation of primary EPS with a presentation of basic EPS. It also requires
dual presentation of basic and diluted EPS on the face of the income statement
for all entities with complex capital structures and requires reconciliation of
the numerator and denominator of the basic EPS computation to the numerator and
denominator of the diluted EPS computation. The statement is effective for
financial statements issued for periods ending after December 15, 1997, and
requires restatement for all periods presented.
FINANCIAL STATEMENT PRESENTATION. Certain prior year amounts in the supplemental
consolidated financial statements have been reclassified to conform to the
fiscal 1997 presentation.
NOTE 3. SHORT-TERM BORROWINGS
The Company has a $10 million revolving line of credit with a bank. The Company
compensates the bank for credit facilities by paying annual administrative fees.
The balance of the Company's short-term borrowings against this line as of
December 28, 1997, and December 29, 1996, was zero.
Notes Payable consist of:
<TABLE>
<S> <C>
(IN THOUSANDS)
Note payable to bank with interest at prime plus 1% (9.5% at
December 31, 1997) due July 31, 1998. This note is personally
guaranteed by the Chairman of the Board of Directors of Acclaim. In
connection with this guarantee, 100,000 warrants to purchase
Series C preferred stock at $3.00 per share were issued. These
warrants were converted into Company common stock in the business
combination. $ 2,000
Notes payable primarily to common and preferred shareholders with
interest at 7%, due on demand, and unsecured. In connection with
these loans, 231,150 warrants to purchase Series C preferred
stock at $3.00 per share were issued. These warrants were converted
into Company common stock in the business combination. 3,949
-------------
Total $ 5,949
-------------
-------------
</TABLE>
NOTE 4. LONG-TERM DEBT
The Company sold $115 million of 4% convertible subordinated notes during 1997.
The notes will mature on September 1, 2004. Unless previously redeemed or
repurchased, the notes are convertible, at any time, through the close of
business on the final maturity date of the notes, into common stock of the
Company, at a conversion price of $26.67 per share. Interest on the notes is
payable semi-annually, commencing March 1, 1998. Total interest accrued on the
convertible subordinated notes at December 28, 1997 was approximately
$1,550,000.
20
<PAGE>
After September 2000, the notes are redeemable at the option of the Company, in
whole or in part. The notes may be redeemed for either cash or common stock at a
repurchase price of 105% of the principal amount of the notes to be repurchased
plus accrued and unpaid interest to the repurchase date.
The notes are unsecured obligations of the Company and are subordinated to all
existing and future senior indebtedness of the Company. The indenture contains
no limitations on the incurrence of additional indebtedness or other liabilities
by the Company.
NOTE 5. LEASES
The Company conducts its operations using leased facilities and equipment under
both capital and operating leases. Minimum future lease payments as of December
28, 1997, are as follows:
<TABLE>
<CAPTION>
(IN THOUSANDS)
Capital Leases Operating Leases
------------------- ------------------
<S> <C> <C>
Year Ending
1998 $ 1,425 $ 13,682
1999 1,252 14,294
2000 974 12,209
2001 74 9,049
2002 - 7,212
Thereafter - 29,852
------------------- ------------------
$ 3,725 $ 86,298
------------------
------------------
Less-Interest portion (7.38% to 12%) (339)
-------------------
Capital lease obligations 3,386
Less-Current portion (1,211)
-------------------
Long-term portion $ 2,175
-------------------
-------------------
</TABLE>
Rent expense for operating leases was approximately $9.4 million, $7.5 million,
and $3.5 million for the years ended December 28, 1997, December 29, 1996, and
December 30, 1995, respectively.
21
<PAGE>
NOTE 6. INCOME TAXES
The provision for income taxes consists of:
<TABLE>
<CAPTION>
(IN THOUSANDS)
1997 1996 1995
--------------- -------------- --------------
<S> <C> <C> <C>
Current taxes:
State $ 1,098 $ 282 $ 1,333
Federal 9,606 4,307 2,579
Deferred taxes:
State 242 696 (675)
Federal (1,496) 1,089 (1,795)
--------------- -------------- --------------
Total tax provision $ 9,450 $ 6,374 $ 1,442
--------------- -------------- --------------
--------------- -------------- --------------
</TABLE>
The tax benefits associated with non-qualified stock options reduced taxes
currently payable by $5,129,000, $1,205,000, and $2,418,000 in 1997, 1996, and
1995, respectively. Such benefits were recorded as an increase to common stock.
Deferred tax assets and liabilities are determined based on the differences
between the financial reporting and tax bases of assets and liabilities. They
are measured by applying the enacted tax rates and laws in effect for the years
in which such differences are expected to reverse.
The significant components of the Company's deferred tax assets and liabilities
as of December 28, 1997, and December 29, 1996, are as follows:
<TABLE>
<CAPTION>
(IN THOUSANDS)
1997 1996
--------------- --------------
<S> <C> <C>
Deferred tax assets:
Inventory reserves $ 1,893 $ 397
Deferred income 1,822 1,244
Accounts receivable reserve 134 93
Deferred lease expense 151 265
Inventory Unicap adjustment 796 345
Accrued vacation 484 273
AMT credit carryforwards 365 365
R&D credit carryforwards 964 537
Net operating loss carryforwards 4,777 96
Other (4) 346
--------------- --------------
Total deferred tax asset 11,382 3,961
Deferred tax liabilities:
Accelerated depreciation (356) (362)
Unrealized loss on Section 475 securities (681) -
Valuation allowance (6,283) (1,095)
--------------- --------------
Net deferred income tax $ 4,062 $ 2,504
--------------- --------------
--------------- --------------
</TABLE>
22
<PAGE>
The reconciliation of the federal statutory tax rate to the effective tax rate
is as follows:
<TABLE>
<CAPTION>
1997 1996 1995
--------------- -------------- --------------
<S> <C> <C> <C>
Statutory federal tax rate 35.0% 34.0% 34.0%
Valuation allowance 32.5 7.7 (20.5)
Foreign taxes & foreign sales corporation (4.5) (5.9) (3.0)
State taxes 4.8 3.3 5.7
Non-deductible acquisition costs 1.0 6.8 2.2
Research and development credits (6.3) (0.5) -
Tax exempt interest (3.4) (0.5) (5.9)
--------------- -------------- --------------
Effective income tax rate 59.1% 44.9% 12.5%
--------------- -------------- --------------
--------------- -------------- --------------
</TABLE>
NOTE 7. SHAREHOLDERS' EQUITY AND EARNINGS PER SHARE
In July 1997, the Board of Directors authorized a 3 for 2 stock split, which was
effective on August 26, 1997. The stock split was declared on July 7, 1997, to
shareholders of record on August 5, 1997. All common stock amounts and per share
amounts have been retroactively adjusted to reflect the stock split.
On February 23, 1998, the Board of Directors authorized a 3 for 2 stock split
effective on March 30, 1998 to shareholders of record on March 9, 1998. All
common stock amounts and per share amounts have been adjusted retroactively to
reflect the stock split.
23
<PAGE>
The Company adopted Statement on Financial Accounting Standards No. 128,
"Earnings per Share," effective December 15, 1997. As a result, the Company's
earnings per share for all prior periods have been restated. The following table
reconciles the numerator and denominator of the basic and diluted earnings per
share computations.
<TABLE>
<CAPTION>
Per Share
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Income Shares Amount
---------------- --------------- ----------------
<S> <C> <C> <C>
YEAR ENDING:
Net income:
1997 $ 6,553
1996 $ 7,833
1995 $ 10,131
BASIC EPS: income available to common shareholders
1997 $ 6,553 34,203 $ 0.19
1996 $ 7,833 31,557 $ 0.25
1995 $ 10,131 29,159 $ 0.35
Effect of dilutive options and warrants
1997 2,281
1996 1,573
1995 1,314
DILUTED EPS: income available to common
stockholders plus assumed conversions
1997 $ 6,553 36,484 $ 0.18
1996 $ 7,833 33,130 $ 0.24
1995 $ 10,131 30,473 $ 0.33
</TABLE>
No conversion is assumed for the convertible subordinated notes issued in 1997
because it would have an anti-dilutive effect on earnings per share. Options to
purchase approximately 178,428, 348,672 and 300,485 shares of common stock in
1997, 1996 and 1995, respectively, were not included in the computation of
diluted EPS because the options' exercise price was greater than the average
market price of the common shares, making the shares anti-dilutive.
NOTE 8. STOCK OPTION AND PURCHASE PLANS AND EMPLOYEE BENEFIT PLAN
STOCK-BASED COMPENSATION PLANS. The Company has five stock option plans: the
1985 Stock Option Plan (the "1985 Plan"), the 1993 Stock Option Plan (the "1993
Plan"), the San Francisco Telecom Stock Option Plan (the "SFT Plan"), the
Acclaim Communications 1996 Stock Incentive Plan (the "ACCL Plan"), the Jato
Technologies 1997 Stock Plan (the "Jato Plan") and an employee stock purchase
plan (the "ESPP"). No further options may be granted under the 1985 Plan, the
SFT Plan, the ACCL Plan, or the Jato Plan and 484,024 options previously granted
under these plans remain outstanding. The Company applies Accounting Principles
Board Opinion No. 25 and related interpretations in accounting for its plans.
Accordingly, no compensation cost has been recognized for its stock option
plans.
24
<PAGE>
Had compensation cost for these plans been determined consistent with SFAS 123,
the Company's net income and net income per common share would have been reduced
to the following pro forma amounts:
<TABLE>
<CAPTION>
(IN THOUSANDS, EXCEPT SHARE DATA)
1997 1996 1995
<S> <C> <C> <C>
Net Income
As reported $ 6,553 $ 7,833 $ 10,131
Pro-forma $ 2,550 $ 5,917 $ 9,422
Earnings per share, as reported
Basic $ 0.19 $ 0.25 $ 0.35
Diluted $ 0.18 $ 0.24 $ 0.33
Pro-forma earnings per share
Basic $ 0.07 $ 0.19 $ 0.32
Diluted $ 0.07 $ 0.19 $ 0.32
</TABLE>
The fair value of each option grant has been estimated on the date of the grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions used for grants in 1997, 1996, and 1995. In calculating compensation
cost: risk-free interest rates of 6.12, 6.15, and 5.90 percent, and expected
stock price volatility of 70%, an expected life of six years and no dividend
payments for 1997, 1996, and 1995, respectively.
Because the SFAS 123 method of accounting has not been applied to options
granted prior to January 1, 1995, and due to the nature and timing of option
grants, the resulting pro forma compensation cost may not be representative of
that to be expected in future years.
The Company has authorized the issuance of up to 1,012,500 shares of stock to
its full-time employees under the ESPP. The Company has sold 67,487 shares and
49,808 shares as of December 28, 1997 and December 29, 1996, respectively, and
has sold a total of 168,650 shares through December 28, 1997. The Company sells
shares at 85% of the stock's market price, which is either the market price at
the beginning or at the end of offering period, whichever is lower.
The Company may grant options for up to 6,862,500 shares under the 1993 Plan.
The Company had 1,076,081 shares available for grant at December 28, 1997. Under
the 1993 Option Plan, the option exercise price equals the market price on date
of grant.
All options previously granted in fiscal 1997 and 1996 under the ACCL Plan have
been converted into options of the Company's common stock. Each Acclaim option
was converted into .362859 of the Company's options at exercise prices of $0.69
to $1.38. There were approximately 775,000 shares outstanding and 163,000
exercisable at December 28, 1997. All options were granted at a price equal to
the fair value of Acclaim stock at the grant date.
25
<PAGE>
All options previously granted in fiscal 1997 under the Jato Plan have been
converted into options of the Company's stock. Each Jato option was converted
into .458733 of the Company's options at exercise prices of $0.22 to $0.44.
There were approximately 486,000 shares outstanding and none of the options were
exercisable at December 28, 1997. All options were granted at a price equal to
the fair market of Jato stock at the grant date.
The following table presents the aggregate options granted, forfeited, and
exercised under the 1985 Plan, 1993 Plan, SFT Plan, the ACCL Plan, and the Jato
Plan for the years ended December 28, 1997, December 29, 1996, and December 30,
1995, at their respective weighted average exercise prices.
<TABLE>
<CAPTION>
1997 1996 1995
------------------------------- ------------------------------- -------------------------------
Wtd. Avg. Wtd. Avg. Exer. Wtd. Avg.
(SHARES IN THOUSANDS) Shares Exer. Price Shares Price Shares Exer. Price
-------------- ------------------------------- ------------------------------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding beginning of period 4,836 $ 6.05 3,342 $ 5.06 2,455 $ 2.29
Granted:
Price = Fair Value 2,552 15.31 1,624 9.56 1,541 7.99
Price < Fair Value 672 0.73 566 0.88 57 0.29
Exercised (704) 3.70 (391) 2.47 (489) 0.62
Canceled (418) 7.10 (305) 8.96 (222) 3.33
------------- ------------- -------------- ------------- ------------- --------------
------------- ------------- -------------- ------------- ------------- --------------
Outstanding end of year 6,938 $ 9.12 4,836 $ 6.05 3,342 $ 5.06
------------- ------------- -------------- ------------- ------------- --------------
------------- ------------- -------------- ------------- ------------- --------------
Exercisable end of year 1,948 1,650 826
------------- -------------- -------------
------------- -------------- -------------
</TABLE>
The following table summarizes information about options outstanding under the
1985, Plan, 1993 Plan, SFT Plan, ACCL Plan and the Jato Plan at December 28,
1997.
<TABLE>
<CAPTION>
(SHARES IN THOUSANDS)
Options Outstanding Options Exercisable
------------------------------------------------------- -------------------------------------
Shares
Outstanding as Wtd. Avg. Remaining Wtd. Avg. Shares Exercisable Wtd. Avg.
Range of Exercise Prices of 12/31/97 Contractual Life Exercise Price as of 12/31/97 Exercise Price
- --------------------------- ----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
$ 0.17 $ 7.17 2,080 7.63 $ 1.75 1,397 $ 1.34
7.33 9.78 1,716 7.70 7.94 395 8.02
10.00 13.22 1,651 8.74 10.95 144 10.87
13.33 27.17 1,491 9.67 18.70 12 15.74
- --------------------------- ---------------- -------------------- --------------- -------------------- ---------------
$ 0.17 $ 27.17 6,938 8.35 $ 9.11 1,948 $ 3.49
- --------------------------- ---------------- -------------------- --------------- -------------------- ---------------
- --------------------------- ---------------- -------------------- --------------- -------------------- ---------------
</TABLE>
Options for all plans are exercisable in installments at intervals determined by
the Board of Directors, not to exceed ten years and one day.
26
<PAGE>
401(K) TAX DEFERRED SAVINGS PLAN. The Company has a 401(k) Tax Deferred Savings
Plan (the "401(k) Plan") under which eligible employees may elect to have a
portion of their salary deferred and contributed to their accounts under the
401(k) Plan. Under the 401(k) Plan, the Company will contribute at least 1% (and
up to a maximum of 3%) of an eligible employee's annual gross salary to the
employee's account under the 401(k) Plan. For the fiscal years ended December
28, 1997, December 29, 1996, and December 30, 1995, the Company contributed
$490,000, $420,000, and $315,000, respectively, to the 401(k) Plan.
NOTE 9. INCENTIVE PLANS
The Company has reserved 202,500 shares of Common Stock for issuance to
employees pursuant to a stock bonus plan to be agreed upon by the Board of
Directors. As of December 28, 1997, no shares had been issued.
Beginning in January 1994, the Company implemented an incentive compensation
plan. The Company's incentive compensation plan provides for incentive
compensation for substantially all employees of the Company based upon the
achievement of specified operating and performance results. Incentive
compensation totaled $3,739,000, $1,791,000, and $833,000 for 1997, 1996 and
1995, respectively.
NOTE 10. STOCK WARRANTS
The Company has issued warrants to independent sales representatives to purchase
up to 95,625 shares of its Common Stock with exercise prices ranging from $1.03
to $9.33 per share. As of December 28, 1997, an aggregate of 45,155 shares have
been issued upon exercise of warrants.
In connection with securing a loan from investors in 1992, the Company issued
warrants to purchase 456,179 shares of Common Stock with an exercise price of
$0.67 per share. The warrants were exercised January 16, 1997, for 433,697
shares, and the balance was surrendered, on a net appreciation basis, in an
amount equal to the exercise price.
In connection with the issuance of notes in 1996, warrants were granted by
Acclaim to purchase 27,000 shares of Series B convertible preferred stock at
$5.00 per share. The warrants became exercisable upon the closing of the Series
B convertible preferred stock financing during 1996 and expire in ten years. The
fair value of such warrants, aggregating approximately $66,600, was recorded as
additional interest expense during 1996. These warrants have been converted into
warrants to purchase 21,936 shares of the Company's common stock at $6.16 per
share.
In connection with the issuance of notes in 1997, warrants were granted by
Acclaim to purchase 331,150 shares of Series C convertible preferred stock at
$3.00 per share. The warrants became exercisable upon the closing of the Series
C convertible preferred stock financing during 1998 and expire in ten years. The
fair value of such warrants, approximately $586,000, was recorded as common
stock. The related issuance cost of $585,000 was recorded in other assets and is
being amortized to interest expense over the life of the recorded debt. Interest
expense includes amortization of these issuance costs totaling $331,000. These
warrants have subsequently been converted into warrants to purchase 234,549
shares of the Company's common stock at $6.16 per share.
27
<PAGE>
NOTE 11. PREFERRED STOCK
No shares of Preferred Stock are currently outstanding. The Company's Board of
Directors is authorized to issue up to 10,000,000 shares of Preferred Stock.
NOTE 12. RELATED PARTY TRANSACTIONS
During 1997, 1996 and 1995, the Company paid consulting and/or directors' fees
of approximately $117,000, $129,600, and $130,000 respectively, to three members
of the Board of Directors.
During the third quarter of 1996, in connection with a third-party financing for
Maker Communications, Inc. ("Maker"), the Company sold a portion of its minority
interest in Maker for an aggregate of approximately $675,000 in cash. This sale
was accounted as a one-time gain recorded as "Other Income" in the accompanying
Supplemental Consolidated Statements of Income. The Company continues to hold a
minority interest in Maker and license certain Maker technology. Other
contractual rights and obligations, including the Company's obligation to
provide certain loan financing to Maker, were terminated in the transaction.
Following the transaction, Maker repaid the Company approximately $2.9 million,
the total balance under an outstanding note.
NOTE 13. BUSINESS AND TECHNOLOGY ACQUISITIONS
During December 1996, the Company acquired Silicon Design Experts, Inc. ("SDE").
In connection with the transaction, the Company issued an aggregate of 195,143
shares of its common stock valued at $3,000,000 to SDE's shareholders, and
agreed to issue additional shares of Common Stock in the future to SDE's
shareholders and employees, with the amount to be contingent upon the extent of
sales of products developed by SDE and Level One's stock price. The total
purchase price of $3,000,000 was allocated as follows: $500,000 to goodwill, and
$2,500,000 for purchased research and development. The purchased research and
development of $2,500,000 was expensed. The transaction was accounted for under
the purchase method of accounting. Accordingly, SDE's operating results after
the date of acquisition are included in the Supplemental Consolidated Statements
of Income.
On June 6, 1995, the Company acquired San Francisco Telecom, Inc. ("SFT"). SFT
operates as a wholly-owned subsidiary of the Company. In connection with the
transaction, the Company issued an aggregate 304,560 shares of its common stock
to SFT's shareholders, assumed existing SFT stock options, which will be
exercisable for a total of 56,139 shares of Common Stock, and agreed to issue
additional shares of Common Stock in the future to SFT's shareholders and
employees, with the amount to be contingent upon the extent of sales of products
developed by SFT. The transaction was accounted for under the purchase method of
accounting. Accordingly, SFT's operating results after the date of the
acquisition are included in the Supplemental Consolidated Statements of Income.
28
<PAGE>
NOTE 14. FOUNDRY COMMITMENTS
The Company's current wafer requirements are supplied primarily by six
foundries. During 1995, the Company entered into five-year agreements with three
of its suppliers for committed foundry capacity in consideration of equipment
financing or cash deposits. At December 28, 1997, the Company had provided an
aggregate of $20.6 million in capital equipment financing and/or cash deposits
to these foundries to obtain committed foundry capacity. During the first
quarter of 1998, the Company paid an aggregate $1.3 million in additional
deposits as required by its agreements. There are no additional deposits due
under the Company's existing foundry agreements. During the first quarter of
1999, the Company received $15.0 million in deposit refunds as part of the
foundry capacity agreements.
NOTE 15. SUBSEQUENT EVENTS
On November 28, 1995, the Company initiated a patent infringement suit against
Seeq Technologies, Inc. in United States District Court for the Northern
District of California. The suit relates to two Level One patents, No. 5,267,269
and No. 5,249,183, and to certain Seeq products used in Ethernet system
products. The suit was settled on September 25, 1998. The terms of the
settlement are confidential.
On December 30, 1998, the Company amended its Certificate of Incorporation to be
reincorporated in the state of Delaware.
29
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL UNAUDITED CONSOLIDATED BALANCE SHEETS
As of March 29, 1998, June 28, 1998, September 27, 1998
and December 28, 1997
<TABLE>
<CAPTION>
March 29, June 28, September 27, December 28,
(IN THOUSANDS) 1998 1998 1998 1997
---------------- --------------- ---------------- ----------------
<S> <C> <C> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents $ 21,776 $ 18,076 $ 6,945 $ 27,694
Short-term investments 103,164 103,017 88,921 112,560
Trade accounts receivable, net of allowance for doubtful 32,634 36,042 43,029 30,191
accounts of $493, $493, $493 and $343 for March 29,
1998, June 28, 1998, September 27, 1998 and
December 28, 1998, respectively
Other receivables 1,100 4,778 3,211 2,473
Inventories 29,233 24,409 18,963 26,699
Other current assets 7,101 6,041 5,622 7,108
---------------- --------------- ---------------- ----------------
Total current assets 195,008 192,363 166,691 206,725
Property and equipment, net 37,074 41,059 44,875 34,050
Long-term investments 38,186 49,383 72,829 21,559
Foundry deposits 16,781 16,781 16,615 14,000
Other assets 5,597 5,168 4,939 7,428
---------------- --------------- ---------------- ----------------
Total assets $ 292,646 $ 304,754 $ 305,949 $ 283,762
---------------- --------------- ---------------- ----------------
---------------- --------------- ---------------- ----------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Current portion of capital lease obligations $ 1,211 $ 1,211 $ 1,223 $ 1,211
Accounts payable 22,469 23,098 19,827 22,890
Accrued payroll costs 3,979 6,859 7,259 4,719
Notes payable 7,748 10,798 4,486 5,949
Deferred revenue 5,935 6,076 3,332 5,171
Other accrued liabilities 10,177 9,616 9,360 8,046
---------------- --------------- ---------------- ----------------
Total current liabilities 51,519 57,658 45,487 47,986
Convertible subordinated notes 115,000 115,000 115,000 115,000
Capital lease obligations, less current portion 2,502 2,198 1,889 2,175
Deferred lease expense 259 218 177 300
---------------- --------------- ---------------- ----------------
Total liabilities 169,280 175,074 162,553 165,461
Shareholders' Equity:
Common Stock, no par value 104,233 108,427 115,354 102,898
Authorized - 236,250 shares
Outstanding - 36,454, 36,459, 37,794 and 36,153
shares for March 29, 1998, June 28, 1998,
September 27, 1998 and December 28, 1997,
respectively
Unrealized gain on investments 19 4 150 18
Retained earnings 19,114 21,249 27,892 15,385
---------------- --------------- ---------------- ----------------
Total shareholders' equity 123,366 129,680 143,396 118,301
---------------- --------------- ---------------- ----------------
Total liabilities and shareholders' equity $ 292,646 $ 304,754 $ 305,949 $ 283,762
---------------- --------------- ---------------- ----------------
---------------- --------------- ---------------- ----------------
</TABLE>
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
30
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended March 29, 1998, June 28, 1998, March 30, 1997,
and June 29, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three Months Ended
---------------------------------------------------------------------------------
March 29, 1998 March 30, 1997 June 28, 1998 June 29, 1997
-------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Revenues $ 56,630 $ 30,138 $ 60,496 $ 32,708
Cost of revenues 23,575 12,900 25,968 14,146
------------------- ------------------- ------------------- -------------------
Gross margin 33,055 17,238 34,528 18,562
Operating Expenses:
Research & development 12,504 7,568 12,743 8,285
Sales & marketing 9,414 4,604 9,492 5,201
General & administrative 4,166 2,113 7,409 2,688
------------------- ------------------- ------------------- -------------------
Total operating expenses 26,084 14,285 29,644 16,174
Operating income 6,971 2,953 4,884 2,388
Interest income 2,140 503 2,498 481
Interest expense (1,705) (162) (1,790) (13)
Other income 23 50 112 23
------------------- ------------------- ------------------- -------------------
Income before provision for income taxes 7,429 3,344 5,704 2,879
Provision for income taxes 3,700 1,676 3,569 1,932
------------------- ------------------- ------------------- -------------------
Net income $ 3,729 $ 1,668 $ 2,135 $ 947
------------------- ------------------- ------------------- -------------------
------------------- ------------------- ------------------- -------------------
Basic earnings per share $ 0.10 $ 0.05 $ 0.06 $ 0.03
------------------- ------------------- ------------------- -------------------
------------------- ------------------- ------------------- -------------------
Diluted earnings per share $ 0.10 $ 0.05 $ 0.05 $ 0.03
------------------- ------------------- ------------------- -------------------
------------------- ------------------- ------------------- -------------------
</TABLE>
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
31
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended and Nine Months Ended; September 27, 1998
and September 28, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
--------------------------------------- --------------------------------------
September 27, September 28, September 27, September 28,
------------- ------------- ------------- -------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues $ 66,616 $ 42,629 $ 183,742 $ 105,475
Cost of revenues 27,543 17,337 77,086 44,383
------------------- -------------------- ------------------- -------------------
Gross margin 39,073 25,292 106,656 61,092
Operating Expenses:
Research & development 14,850 9,955 40,097 25,808
Sales & marketing 9,982 7,108 28,888 16,913
General & administrative 4,578 3,439 16,153 8,240
------------------- -------------------- ------------------- -------------------
Total operating expenses 29,410 20,502 85,138 50,961
Operating income 9,663 4,790 21,518 10,131
Interest income 2,579 1,129 7,217 2,113
Interest expense (1,358) (540) (4,853) (715)
Other income 13 93 148 166
------------------- -------------------- ------------------- -------------------
Income before provision for income taxes 10,897 5,472 24,030 11,695
Provision for income taxes 4,254 2,660 11,523 6,268
------------------- -------------------- ------------------- -------------------
Net income $ 6,643 $ 2,812 $ 12,507 $ 5,427
------------------- -------------------- ------------------- -------------------
------------------- -------------------- ------------------- -------------------
Basic earnings per share $ 0.17 $ 0.08 $ 0.34 $ 0.16
------------------- -------------------- ------------------- -------------------
------------------- -------------------- ------------------- -------------------
Diluted earnings per share $ 0.16 $ 0.08 $ 0.31 $ 0.15
------------------- -------------------- ------------------- -------------------
------------------- -------------------- ------------------- -------------------
</TABLE>
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
32
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
SUPPLEMENTAL UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended March 29, 1998 and March 30, 1997, Six Months Ended
June 28, 1998 and June 29, 1997 and Nine Months Ended September 27, 1998 and
September 28, 1997
<TABLE>
<CAPTION>
(IN THOUSANDS) Three Months Ended Six Months Ended
---------------------- ----------------------
March 29, March 30, June 28, June 29,
1998 1997 1998 1997
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income $ 3,729 $ 1,668 $ 5,864 $ 2,615
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 3,669 2,227 6,641 4,688
Changes in assets and liabilities, net of effect of acquisition
Trade receivables (2,443) (1,788) (5,851) (2,380)
Other receivables 1,373 - (2,305) -
Inventories (2,534) (221) 2,290 (8,426)
Deferred income tax (benefit), provision - - 1,015 322
Other current assets (73) 321 (28) 140
Accounts payable and accrued liabilities 971 2,837 3,917 7,553
Deferred revenue 764 500 905 500
Deferred lease expense (41) - (82) (68)
--------- --------- --------- ---------
Net cash provided by operating activities 5,415 5,544 12,366 4,944
--------- --------- --------- ---------
Cash flows from investing activities:
Purchase of short-term investments (19,725) (19,410) (32,304) (30,341)
Proceeds from sales and maturities of short-term investments 29,122 10,948 41,833 21,719
Purchase of long-term investments (20,511) (5,940) (38,608) (7,740)
Proceeds from sales and maturities of long-term investments 3,884 7,170 10,784 10,630
Purchase of property and equipment (6,361) (4,733) (13,039) (8,996)
Payments for foundry deposits and other assets (1,203) (31) (1,051) (100)
--------- --------- --------- ---------
Net cash used in investing activities (14,794) (11,996) (32,385) (14,828)
--------- --------- --------- ---------
Cash flows from financing activities:
Proceeds from issuance of convertible
subordinated notes, net of acquisiton costs - - - -
Net activity from issuance of notes 1,799 - 4,849 -
Net activity on debt and capital lease obligations 327 (294) 23 (572)
Proceeds from issuance of stock, net of
repurchases and costs of issuance 1,335 1,913 5,529 3,789
--------- --------- --------- ---------
Net cash provided by financing activities 3,461 1,619 10,401 3,217
--------- --------- --------- ---------
(Decrease) increase in cash and cash equivalents (5,918) (4,833) (9,618) (6,667)
Cash and cash equivalents at beginning of period 27,694 23,301 27,694 23,301
--------- --------- --------- ---------
Cash and cash equivalents at end of period $ 21,776 $ 18,468 $ 18,076 $ 16,634
--------- --------- --------- ---------
--------- --------- --------- ---------
Supplementary disclosure of cash and noncash transactions
Cash payments for:
Interest $ 2,770 $ 83 $ 2,924 $ 165
Income taxes 492 907 5,168 987
(IN THOUSANDS) Nine Months Ended
----------------------
September September
27, 1998 28, 1997
--------- ---------
Cash flows from operating activities:
Net income $ 12,507 $ 5,427
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 11,006 7,221
Changes in assets and liabilities, net of effect of acquisition
Trade receivables (12,838) (10,640)
Other receivables (738) -
Inventories 7,736 (14,119)
Deferred income tax (benefit), provision 2,001 (486)
Other current assets (596) (549)
Accounts payable and accrued liabilities 791 15,806
Deferred revenue (1,839) 1,323
Deferred lease expense (123) (272)
--------- ---------
Net cash provided by operating activities 17,907 3,711
--------- ---------
Cash flows from investing activities:
Purchase of short-term investments (42,366) (46,795)
Proceeds from sales and maturities of short-term investments 66,137 35,953
Purchase of long-term investments (72,157) (19,024)
Proceeds from sales and maturities of long-term investments 20,887 20,567
Purchase of property and equipment (20,961) (15,287)
Payments for foundry deposits and other assets (915) (6,099)
--------- ---------
Net cash used in investing activities (49,375) (30,685)
--------- ---------
Cash flows from financing activities:
Proceeds from issuance of convertible
subordinated notes, net of acquisiton costs - 111,880
Net activity from issuance of notes (1,463) 3,887
Net activity on debt and capital lease obligations (274) (690)
Proceeds from issuance of stock, net of
repurchases and costs of issuance 12,456 6,634
--------- ---------
Net cash provided by financing activities 10,719 121,711
--------- ---------
(Decrease) increase in cash and cash equivalents (20,749) 94,737
Cash and cash equivalents at beginning of period 27,694 23,301
--------- ---------
Cash and cash equivalents at end of period $ 6,945 $ 118,038
--------- ---------
--------- ---------
Supplementary disclosure of cash and noncash transactions
Cash payments for:
Interest $ 5,325 $ 236
Income taxes 5,393 1,029
</TABLE>
The accompanying notes are an integral part of these supplemental
consolidated financial statements.
33
<PAGE>
LEVEL ONE COMMUNICATIONS, INCORPORATED
NOTES TO SUPPLEMENTAL FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1. BASIS OF PRESENTATION
The accompanying supplemental unaudited financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three, six month and nine month periods
ended March 29, 1998 ,June 28, 1998, and September 27, 1998 are not necessarily
indicative of the results that may be expected for the year ending December 27,
1998. The information reported in these financial statements should be read in
conjunction with the financial statements and footnotes contained in the
Company's Form 10-K filed with the Securities and Exchange Commission for the
year ended December 28, 1997, and subsequent filings with the Securities and
Exchange Commission.
All share and per share numbers in this Report have been restated to reflect the
effect of stock splits. Additionally, in connection with the stock splits,
proportional adjustments were made to the outstanding stock options, warrants
and other outstanding obligations of the Company to the shares of common stock.
NOTE 2. COMPREHENSIVE INCOME
On December 29, 1997, the Company adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" (SFAS 130). This statement
establishes standards for the reporting and display of comprehensive income and
its components in the financial statements. Comprehensive income is defined as
the change in equity of a business enterprise during a period from transactions
and other events and circumstances from nonowner sources. For the Company,
comprehensive income includes net income reported on the income statement and
changes in the fair value of its available-for-sale securities reported as a
separate component of shareholders' equity. The Company's total comprehensive
income for the periods ended March 29, 1998, March 30, 1997, June 28, 1998, June
29, 1997, September 27, 1998 and September 28, 1997 was $3.7 million, $1.6
million, $2.1 million, $1.4 million, $6.8 million and $3.5 million respectively.
34
<PAGE>
NOTE 3. EARNINGS PER SHARE
The following is a reconciliation of the numerator (income) and denominator
(shares) of basic and diluted earnings per share for the periods ending March
29, 1998, March 30, 1997, June 28, 1998, June 29, 1997, September 27, 1998 and
September 28, 1997.
<TABLE>
<CAPTION>
Per Share
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Income Shares Amount
--------------- ---------------- ----------------
<S> <C> <C> <C>
QUARTER ENDED:
Net income:
March 27, 1998 $ 3,729
March 30, 1997 1,668
June 28, 1998 2,135
June 29, 1997 947
September 27, 1998 6,643
September 28, 1997 2,812
BASIC EPS: income available to common shareholders
March 27, 1998 $ 3,729 36,230 $ 0.10
March 30, 1997 1,668 33,088 0.05
June 28, 1998 2,135 36,309 0.06
June 29, 1997 947 33,755 0.03
September 27, 1998 6,643 37,992 0.17
September 28, 1997 2,812 34,212 0.08
Effect of dilutive options and warrants:
March 27, 1998 - 2,955
March 30, 1997 - 1,820
June 28, 1998 - 3,098
June 29, 1997 - 1,773
September 27, 1998 - 2,742
September 28, 1997 - 2,608
DILUTED EPS: income available to common
shareholders plus assumed conversions
March 27, 1998 $ 3,729 39,185 $ 0.10
March 30, 1997 1,668 34,908 0.05
June 28, 1998 2,135 39,407 0.05
June 29, 1997 947 35,528 0.03
September 27, 1998 6,643 40,734 0.16
September 28, 1997 2,812 36,820 0.08
</TABLE>
35
<PAGE>
<TABLE>
<CAPTION>
Per Share
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Income Shares Amount
--------------- ---------------- ----------------
<S> <C> <C> <C>
YEAR-TO-DATE:
Net income:
September 27, 1998 $ 12,507
September 28, 1997 5,427
BASIC EPS: income available to common shareholders
September 27, 1998 $ 12,507 36,844 $ 0.34
September 28, 1997 5,427 33,685 0.16
Effect of dilutive options and warrants:
September 27, 1998 - 2,932
September 28, 1997 - 2,067
DILUTED EPS: income available to common
stockholders plus assumed conversions
September 27, 1998 $ 12,507 39,776 $ 0.31
September 28, 1997 5,427 35,752 0.15
</TABLE>
No conversion is assumed for the convertible subordinated notes issued in 1997
because it would have an antidilutive effect on earnings per share. Options to
purchase approximately 354,000, 345,000, 80,000, 136,000, 372,000 and 66,000
shares of common stock for the quarters ending March 29, 1998, March 30, 1997,
June 28, 1998, June 29, 1997, September 27, 1998 and September 28, 1997,
respectively, were not included in the computation of diluted earning per share
because the options exercise price was greater than the average market price of
the common shares, making the shares anti-dilutive.
NOTE 4. INVENTORIES
Inventories are stated at the lower of cost (first in, first out) or market and
include materials, labor and manufacturing overhead costs. Inventories consisted
of:
<TABLE>
<CAPTION>
(IN THOUSANDS)
March 27, 1998 June 28, 1998 September 27, 1998
----------------- --------------- ---------------------
<S> <C> <C> <C>
Raw materials $ 15,990 $ 5,910 $ 8,518
Work-in-process 7,168 10,472 835
Finished goods 6,075 8,027 9,610
----------------- --------------- ---------------------
----------------- --------------- ---------------------
Total inventories $ 29,233 $ 24,409 $ 18,963
----------------- --------------- ---------------------
----------------- --------------- ---------------------
</TABLE>
36
<PAGE>
NOTE 5. PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost and depreciation is provided on a
straight-line basis over their useful lives. Property and equipment consists of:
<TABLE>
<CAPTION>
(IN THOUSANDS)
March 27, 1998 June 28, 1998 September 27, 1998
-------------------- --------------------- ---------------------
<S> <C> <C> <C>
Machinery and equipment $ 37,658 $ 40,811 $ 45,792
Furniture and fixtures 25,601 28,151 31,044
Leasehold improvements 3,686 4,662 4,709
-------------------- --------------------- ---------------------
66,945 73,624 81,545
Less-Accumulated depreciation (29,871) (32,565) (36,670)
-------------------- --------------------- ---------------------
$ 37,074 $ 41,059 $ 44,875
-------------------- --------------------- ---------------------
-------------------- --------------------- ---------------------
</TABLE>
NOTE 6. SUBSEQUENT EVENTS
On November 24, 1998, the Company completed a business combination with Jato
Technologies, Inc. ("Jato") which is a silicon provider of high performance,
multi-speed Gigabit Ethernet controller technology. The combination was a stock
for stock merger that has been accounted for as a "pooling-of-interests."
Accordingly, the Company's historical consolidated financial statements have
been restated to include the financial position and results of operations of
Jato. As a result of the merger, the outstanding shares of Jato capital stock
and options and warrants to purchase Jato capital stock were converted into the
right to receive an aggregate of 2,550,000 shares of the Company's common stock.
On July 6, 1998, the Company completed a business combination with Acclaim
Communications, Inc. ("Acclaim") which is a provider of Fast Ethernet and
Gigabit Ethernet switches and integrated Multi-Service access products. The
combination was a stock for stock merger that has been accounted for as a
"pooling-of-interests." Accordingly, the Company's historical consolidated
financial statements have been restated to include the financial position and
results of operations of Acclaim. As a result of the merger, the outstanding
shares of Acclaim capital stock and options and warrants to purchase Acclaim
capital stock were converted into the right to receive an aggregate of
5,000,000 shares of the Company's common stock.
The Company's acquisition transactions costs incurred in the period ended June
28, 1998 totaled $2.8 million, costs incurred in the period ending December 27,
1998 totaled $.8 million and are included in general and administrative costs in
the accompanying consolidated statements of income.
On November 28, 1995, the Company initiated a patent infringement suit
against Seeq Technologies, Inc. in United States District Court for the
Northern District of California. The suit relates to two Level One patents,
No. 5,267,269 and No. 5,249,183, and to certain Seeq products used in
Ethernet system products. The suit was settled on September 25, 1998. The
terms of the settlement are confidential.
37
<PAGE>
On December 30, 1998, the Company amended its Certificate of Incorporation to be
reincorporated in the state of Delaware.
During the first quarter of 1999, the Company received deposit refunds of $15.0
million on its wafer capacity agreements.
38
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
The following information should be read in conjunction with the unaudited
interim financial statements and the notes thereto included in Item 5 and in
Item 1 of this Supplement to the Form 8-K, the Management's Discussion and
Analysis of Financial Condition and Results of Operations contained in the
Company's Form 10-K for the period ended December 28, 1997 filed with the
Securities and Exchange Commission on March 27, 1998, and any subsequent filings
with the Securities and Exchange Commission.
This report contains forward-looking statements that involve risks and
uncertainties. The statements contained in this report that are not purely
historical are forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934, including without limitation statements regarding the Company's
expectations, beliefs, intentions or strategies regarding the future. All
forward-looking statements included in this document are based on information
available to the Company on the date hereof, and the Company assumes no
obligation to update any such forward-looking statements. The Company's actual
results could differ materially from those anticipated in these forward-looking
statements. See "Factors That May Affect Future Results".
RESULTS OF OPERATIONS
REVENUES. Revenues increased 88% to $56.6 million and 85% to $60.5 million and
56% to $66.6 million in the first, second and third quarters of 1998 compared to
revenues of $30.1 million, $32.7 million and $42.6 million for the same quarters
of 1997. Revenues increased sequentially by 11%, 18% and 30% since the fourth
quarter 1997 revenues of $51.1 million. No single customer represented 10% of
total revenues during the first quarter, sales to D-link, Inc. represented 11%
of total revenues during the second quarter and Flextronics Technologies, Inc.
represented 10.5% of total revenues during the third quarter of 1998. No single
customer represented 10% of total revenues during any of the first three
quarters of 1997. The increased revenues reflect the unit sales growth due to
the continued market acceptance of the Company's products in both the networking
and transmission markets.
International revenues for the first quarter of 1998 and 1997 were $21.2 million
or 37.5% of revenues and $10.8 million or 36.0% of revenues, respectively. For
the second quarter of 1998 and 1997 international revenues were $23.2 million or
38% of revenues and $10.8 million or 33% of revenues, respectively. For the
third quarter of 1998 and 1997, international revenues were $28.1 million or 42%
and $14.4 million or 34%, respectively. All sales are denominated in U.S.
dollars, thereby eliminating the impact of foreign currency exchange rate
fluctuations on revenues.
39
<PAGE>
GROSS MARGIN. Product gross margin is affected by several factors, including
average selling prices, the mix between older and newer products, test equipment
utilization, manufacturing yields, timing of cost reductions and the mix between
direct and distributor sales. Margins on domestic and international sales are
similar. Margins were 58.7% for the third quarter of 1998 versus 59.3% for the
third quarter of 1997. Gross product margins for the second quarter of 1998 were
57.1 versus 58.4% for the first quarter of 1998 57.2% and 56.8% for the first
and second quarters of 1997, respectively. The gross product margins for the
first nine months of 1998 were 58% versus 57.9% for the first nine months of
1997, this increase is due to the impact of cost reductions implemented during
the second half of 1997 and the first half of 1998.
RESEARCH AND DEVELOPMENT. Research and development expenses for the first three
quarters in 1998 were $12.5 million, $12.7 million and $14.9 million or 22.1%,
21.1% and 22.3% of total revenues. For the same three quarters of 1997 research
and development expenses were $7.6 million, $8.3 million and $10.0 million or
25.1%, 25.3% and 23.4% of total revenues. The dollar increase in research and
development expense is due to additions to the Company's design engineering
staff and related new product design expenses.
SALES AND MARKETING. Sales and marketing expenses were $9.4 million or 16.6%,
$9.5 million or 15.7% and $10.0 million and 15.% of revenues for the first,
second and third quarters of 1998 respectively. For the same quarters of 1997,
sales and marketing expenses were $4.6 million or 15.3%, $5.2 million or 15.9%
and $7.1 million or 16.7% of total revenues. The increased expenditures are
primarily attributable to the expansion of the Company's sales and marketing
staffs and their related costs.
GENERAL AND ADMINISTRATIVE. General and administrative expenses for three
quarters of 1998 were $4.2 million or 7.4% and $7.4 million or 12.2% and $4.6
million or 6.9% of revenues. For the same three quarters of 1997, general and
administrative expenses were $2.1 million or 7.0%, $2.7 million or 8.2% and $3.4
million or 8.1% of total revenues. During the second and third quarters of 1998
the company incurred one time charges for transaction costs associated with the
acquisitions of Acclaim and Jato of $2.8 million and $0.8 million, respectively.
LIQUIDITY AND CAPITAL RESOURCES. The Company's principal sources of liquidity as
of March 29, 1998, June 28, 1998, and September 27, 1998 consisted of $124.9
million, $121.1 million and $95.9 million of cash, cash equivalents and
short-term investments, respectively. Working capital was $143.5 million at
March 29, 1998, $134.7 million at June 28, 1998, $121.2 million at September 27,
1998 and $158.7 million at December 28, 1997. During the first quarter of 1998,
the Company generated $5.4 million of cash from operating activities, as
compared to $5.5 million in the same period in 1997. During the second quarter
of 1998, the Company generated $7.0 million of cash from operating activities,
as compared to using $0.6 million in the same period in 1997. During the third
quarter of 1998, the Company generated $5.5 million of cash from operating
activities, as compared to using $1.2 million for the same period in 1997. In
all periods, net cash
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generated from operations during the period was primarily due to net income
before depreciation and amortization expense. Cash was also impacted by the net
changes in inventories, accounts receivable, net plant and equipment, and
accounts payable. These changes are due primarily to expansion of the Company's
business, and do not reflect material changes in the way the Company conducts
operations. The Company spent $21.0 million for capital expenditures during the
first nine months of 1998 as compared to $15.3 million for the same period in
1997.
Management believes that, in addition to current financial resources, adequate
capital resources are available to satisfy the Company's investment and capital
programs. Management believes that the Company's cash flow is sufficient to
maintain its current operations.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The following factors may have an impact on the Company's business:
MANUFACTURING RISKS. Because we do not manufacture the silicon wafers used for
our products, we depend on our wafer suppliers to produce wafers in sufficient
quantities to meet customer demand at acceptable yields and at competitive
prices. We also depend on wafer suppliers to assemble, test and deliver wafers
on time. In 1994 and 1995, our foundries reduced shipments without prior notice
to us which resulted in increased costs and delays and required us to transfer
the production of some products to a new foundry. Supply agreements with wafer
suppliers cannot eliminate this risk since our suppliers may not be able to
produce enough wafers to meet increased demand because of their own capacity
limitations.
In the semiconductor industry, price competition is intense and product life
cycles are short. As a result, the average selling price for our products
decreases rapidly as new or competing products are introduced. To compensate, we
rely on obtaining yield improvements to reduce manufacturing costs and on
introducing new products which incorporate advanced features that result in
higher average selling prices. To the extent that we do not successfully develop
and timely introduce new products that achieve market acceptance, or to the
extent that we do not achieve sufficient cost reductions on existing products to
maintain margins, we may be adversely impacted. To be successful, we must
identify new product opportunities, stay ahead of the competition so that their
products will not render our products obsolete or noncompetitive, and gain
market acceptance of our products with target customers. Because of the
increasing complexity of our new products, we could experience delays in
completing development and introduction of new products that could adversely
impact our anticipated market share for new products. We may be adversely
affected by a failure in any of these areas.
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MANAGEMENT OF GROWTH; DEPENDENCE ON KEY PERSONNEL. In July 1998, we acquired
Acclaim Communications, Inc. In late November 1998, we acquired Jato
Technologies, Inc. In order to successfully integrate these two newly acquired
businesses and successfully manage our existing business, we will need to expand
and refine our management and personnel resources. We will also need to
significantly increase our development, testing, quality control, marketing,
logistics and service capabilities. If we do not effectively expand and deploy
our resources to meet these needs, our business may be adversely impacted.
INTELLECTUAL PROPERTY. In the semiconductor industry, competitors often assert
intellectual property infringement claims against one another. The success of
our business depends on our ability to successfully defend our intellectual
property. This litigation may have a material impact on our financial condition
regardless of whether or not we are successful. There is no assurance that we
will be successful in defending or asserting our intellectual property rights.
SEMICONDUCTOR INDUSTRY. If we produce excess or insufficient product inventories
because we do not accurately anticipate customer demand, our revenues and
earnings could be materially adversely impacted. This may happen for three
reasons: First, some of our customers place orders with long lead-times, which
may be canceled or rescheduled without significant penalty. Second, our
inventory risk increases during periods of strong demand and/or restricted
semiconductor capacity because, based on our past experience, customers often
over-order to assure adequate supply and then may cancel or postpone orders
without notice or significant penalty if other product becomes available. Third,
component shortages from our customers' suppliers could cause our customers to
cancel or delay plans to incorporate our products into the design of target
products, resulting in the cancellation or delay of orders for our products.
INCREASED LEVERAGE. We incurred approximately $115 million in additional debt as
a result of our issuance of 4% Convertible Subordinated Notes due 2004 in
September 1997. Our ratio of long-term debt to total capitalization was 44.9% at
September 27, 1998 compared to 52.2% at September 28, 1997. This increased
leverage has increased our interest expense substantially. This increased
leverage could adversely affect our ability to obtain additional financing for
working capital, acquisitions or other purposes and could make us more
vulnerable to economic downturns and competitive pressures. This increased
leverage could also affect our liquidity, as a substantial portion of available
cash from operations may have to be applied to meet debt service requirements
and, in the event of a cash shortfall, we could be forced to reduce other
expenditures and/or forego potential acquisitions to be able to meet such
requirements.
YEAR 2000 COMPLIANCE. We are currently in the process of determining whether
there are any critical areas in our business that are not Year 2000 compliant.
We have begun a comprehensive project to prepare our computer systems for the
Year 2000. We presently
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estimate that the total cost of addressing our Year 2000 problems will be
approximately $100,000, of which approximately 5% has been expended to date.
This cost estimate was derived utilizing numerous assumptions, including the
assumption that we have already identified our most significant Year 2000
problems and that the assessment, remediation and contingency plans of our third
party suppliers will be fulfilled in a timely manner without significant
additional cost to us. We believe that there is a remote possibility of an
adverse impact on our business due to problems with our internal systems or
products. Our products have no date specific functions or date dependencies and
will operate according to published specifications through the Year 2000 and
dates into the 21st century. As part of our Year 2000 assessment, we are
contacting key suppliers of products and services to determine whether such
suppliers' operations, products and services are Year 2000 capable and/or to
monitor their progress toward Year 2000 compliance. If our suppliers are not
Year 2000 compliant, we could experience manufacturing interruptions or
shutdowns, decreased yields, quality inconsistencies, delayed or inaccurate
product testing, delivery delays, or service interruptions. It is possible that
one or more of these problems could have a material adverse effect on our
business, financial condition, or results of operations. There is also a risk
because we have not yet fully developed Year 2000 contingency plans to address
any failure of our Year 2000 assessment to identify and remediate significant
Year 2000 risks to our business operations. Development of contingency plans is
in progress and will continue during calendar year 1999. Such plans could
include accelerating replacement of affected equipment or software, using
back-up equipment and software, developing temporary manual procedures to
compensate for system deficiencies, and identifying Year 2000 capable suppliers
and service providers. There can be no assurance that any such contingency plans
would adequately address the Year 2000 problem. The failure to develop a
successful contingency plan could result in significant delays and inefficiency
in our business which could have a material adverse effect on our business,
financial condition and results of operations.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On November 28, 1995, the Company initiated a patent infringement suit against
Seeq Technologies, Inc. in United States District Court for the Northern
District of California. The suit relates to two Level One patents, No. 5,267,269
and No. 5,249,183, and to certain Seeq products used in Ethernet system
products. The suit was settled on September 25, 1998. The terms of the
settlement are confidential.
There are no other material pending legal proceedings, other than routine
litigation incidental to the Company's business, to which the Company is a party
or of which any of its property is the subject.
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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 hereunto duly authorized.
Date: February 2, 1999 LEVEL ONE COMMUNICATIONS,
INCORPORATED
-----------------------------------
John Kehoe
Senior Vice President and
Chief Financial Officer
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