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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
- --- EXCHANGE ACT OF 1934
For the fiscal quarter ended March 31, 1999
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
- --- EXCHANGE ACT OF 1934
For the transition period from __ to __
Commission File Number: 0-23034
ENCAD-Registered Trademark-, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 95-3672088
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
6059 CORNERSTONE COURT WEST
SAN DIEGO, CA 92121
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (619) 452-0882
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---
The number of shares outstanding of the Registrant's Common Stock as of
March 31, 1999, was 11,672,486.
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ENCAD, INC.
INDEX
<TABLE>
<CAPTION>
PAGE
<S> <C> <C>
PART I - FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets at
March 31, 1999 and December 31, 1998 . . . . . . . . . . 1
Consolidated Statements of Income for the
three months ended March 31, 1999 and 1998 . . . . . . . 2
Consolidated Statements of Cash Flows for the
three months ended March 31, 1999 and 1998 . . . . . . . 3
Notes to Consolidated Financial Statements . . . . . . . . 4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS. . . . . . . . . . . 6
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK. . . . . . . . . . . . . . . . . . . . . . .13
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS. . . . . . . . . . . . . . . . . . . . .13
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS. . . . . . . . .13
ITEM 3. DEFAULTS UPON SENIOR SECURITIES. . . . . . . . . . . . . .13
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. . . .13
ITEM 5. OTHER INFORMATION. . . . . . . . . . . . . . . . . . . . .13
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K . . . . . . . . . . . . .14
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . .14
</TABLE>
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PART I. - FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
ENCAD, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
<TABLE>
<CAPTION>
MARCH 31 December 31,
1999 1998
----------- ------------
(UNAUDITED) (Note)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 1,535 $ 586
Accounts receivable - net 27,704 29,063
Inventories 15,255 16,205
Income taxes receivable - 2,403
Deferred income taxes 5,669 6,025
Prepaid expenses 734 825
------- -------
Total current assets 50,897 55,107
PROPERTY - NET 15,478 15,604
OTHER ASSETS 1,886 1,432
------- -------
TOTAL ASSETS $68,261 $72,143
------- -------
------- -------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 9,686 $11,785
Accrued expenses and other liabilities 7,245 6,002
Borrowings under line of credit 2,500 6,000
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Total current liabilities 19,431 23,787
------- -------
OTHER LIABILITIES 827 813
STOCKHOLDERS' EQUITY:
Preferred stock - no par value; 5,000 shares authorized,
Series A Junior Participating Preferred Stock - no shares
issued and outstanding - -
Common stock, par value - $.001 per share, 60,000 shares
authorized, 11,672 and 11,636 shares issued and
outstanding at March 31, 1999 and December 31, 1998 12 12
Additional paid -in capital 18,815 18,704
Accumulated earnings 29,176 28,827
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Total stockholders' equity 48,003 47,543
------- -------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $68,261 $72,143
------- -------
------- -------
</TABLE>
Note: The balance sheet at December 31, 1998 has been derived from the
audited financial statements at that date but does not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements.
See Notes to Consolidated Financial Statements.
1
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ENCAD, INC.
CONSOLIDATED STATEMENTS OF INCOME - UNAUDITED
(in thousands, except per share data)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
-------------------
1999 1998
------- -------
<S> <C> <C>
NET SALES $28,982 $23,517
COST OF SALES 16,579 14,619
------- -------
GROSS PROFIT 12,403 8,898
------- -------
MARKETING AND SELLING 5,722 5,768
RESEARCH AND DEVELOPMENT 2,932 2,607
GENERAL AND ADMINISTRATIVE 3,091 2,583
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11,745 10,958
------- -------
INCOME (LOSS) FROM OPERATIONS 658 (2,060)
OTHER INCOME - 999
INTEREST EXPENSE - NET (118) (100)
------- -------
INCOME (LOSS) BEFORE INCOME TAXES 540 (1,161)
PROVISION FOR INCOME TAXES 191 (435)
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NET INCOME (LOSS) $ 349 $ (726)
------- -------
EARNINGS (LOSS) PER SHARE - BASIC $ 0.03 $ (0.06)
------- -------
EARNINGS (LOSS) PER SHARE - DILUTED $ 0.03 $ (0.06)
------- -------
WEIGHTED AVERAGE COMMON
SHARES OUTSTANDING - BASIC 11,636 11,528
------- -------
WEIGHTED AVERAGE COMMON AND COMMON
EQUIVALENT SHARES OUTSTANDING - DILUTED 11,725 11,528
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</TABLE>
See Notes to Consolidated Financial Statements.
2
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ENCAD, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS - UNAUDITED
(in thousands)
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------
1999 1998
------------ ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 349 $ (726)
Adjustments to reconcile net income (loss)
to cash provided by (used in)
operating activities:
Depreciation and amortization 821 936
Provision for losses on accounts
receivable and inventories 29 150
Tax benefit from exercise of stock options - 247
Changes in assets and liabilities:
Accounts receivable 1,330 10,301
Inventories 950 (3,106)
Income taxes receivable 2,403 -
Deferred income taxes 356 (361)
Prepaid expenses and other assets (363) (1,185)
Accounts payable (2,099) (4,559)
Accrued expenses and other liabilities 1,257 (4,333)
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Cash provided by (used in) operating activities 5,033 (2,636)
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CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property (695) (1,524)
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Cash used in investing activities (695) (1,524)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Exercise of Common Stock options and sale of stock under
employee stock purchase plan 111 439
Net borrowings under line of credit (3,500) 2,649
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Cash (used in) provided by financing activities (3,389) 3,088
------- -------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 949 (1,072)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 586 1,265
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CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 1,535 $ 193
------- -------
------- -------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Net cash (received) paid during the period
for income taxes $(3,416) $ 2,010
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------- -------
Cash paid during the period for interest $ 117 $ 82
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------- -------
</TABLE>
See Notes to Consolidated Financial Statements.
3
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ENCAD, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Unaudited
(in thousands, except per share data)
1) BASIS OF PRESENTATION - The accompanying consolidated financial
statements as of March 31, 1999 and for the three-month periods ended
March 31, 1999 and 1998 are unaudited and reflect all adjustments
(consisting only of normal recurring adjustments) which are, in the
opinion of management, necessary for a fair presentation of the financial
position and operating results for the interim period. These
consolidated financial statements should be read in conjunction with the
consolidated financial statements and notes thereto, together with
management's discussion and analysis of financial condition and results
of operations, contained in the Company's Annual Report on Form 10-K for
the year ended December 31, 1998 ("1998 Annual Report"). The results of
operations for the interim periods are not necessarily indicative of the
results to be expected for any other interim period or for the entire
fiscal year.
The consolidated financial statements include the accounts of ENCAD, Inc.
and its wholly owned subsidiaries (collectively, the "Company"). All
intercompany transactions and balances are eliminated in consolidation.
Certain reclassifications have been made to amounts included in the prior
year's financial statements to conform to the financial statement
presentation for the three-month period ended March 31, 1999.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect amounts reported in the consolidated financial
statements and related notes. Changes in those estimates may affect
amounts reported in future periods.
2) INVENTORIES:
<TABLE>
<CAPTION>
MARCH 31, December 31,
1999 1998
--------- ------------
<S> <C> <C>
Raw materials $ 6,415 $ 5,061
Work-in-process 474 269
Finished goods 8,366 10,875
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Total $15,255 $16,205
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------- -------
</TABLE>
3) COMPREHENSIVE INCOME - There are no material current differences between
net income and comprehensive income, and accordingly, no amounts have
been reflected in the accompanying consolidated financial statements.
4) REVOLVING LINE OF CREDIT - At March 31, 1999, the Company had available a
$20,000 revolving line of credit currently set to expire in January 2000.
$2,500 was outstanding under the line of credit at March 31, 1999 and
$6,000 at December 31, 1998. At March 31, 1999, the Company was not in
compliance with one financial covenant which was subsequently waived by
the bank. The Company is currently renegotiating the credit agreement
with the bank, including lowering the available amount to $15,000. The
new line would be secured by certain assets of the Company with a
borrowing base limited to eligible accounts receivable and inventory and
would redefine the financial covenants. During this process, the bank
has permitted the Company to continue to make withdrawals from the line.
5) EARNINGS PER SHARE - Basic earnings per share is computed by dividing net
income by the weighted average common shares outstanding. Diluted
earnings per share is computed by dividing net income by the weighted
average number of common and common equivalent shares outstanding.
4
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The following table is a reconciliation of the basic and diluted earnings
per share computations for the three month periods ended March 31, 1999
and 1998:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
---------------------
1999 1998
-------- ---------
<S> <C> <C>
Net income (loss) $ 349 $ (726)
-------- ---------
Earnings (loss) per share - basic $ 0.03 $ (0.06)
-------- ---------
-------- ---------
Basic weighted average common
shares outstanding
11,636 11,528
Effect of dilutive securities:
Stock options
89 0
-------- ---------
Diluted weighted average common
and common equivalent shares
outstanding 11,725 11,528
-------- ---------
Earnings (loss) per share - diluted $ 0.03 $ (0.06)
-------- ---------
-------- ---------
</TABLE>
6) SEGMENT INFORMATION - The Company's business was organized, managed and
internally reported as two segments: the Digital Imaging Solutions
business unit and the Textile business unit. Due to the similarity of
production processes, distribution methods, customers and products, the
segment information for the Digital Imaging Solutions and Textile
business units has been aggregated into one segment. Subsequent to March
31, 1999, the Company initiated a restructure plan to consolidate the
Textile business unit into the Digital Imaging Solutions business unit
resulting in the Company managing and internally reporting the Company's
business as one segment. See Note 7.
The accounting policies of the reportable segments are the same as those
described in Note 1 of the Notes to the Consolidated Financial Statements
to the Company's 1998 Annual Report. The Company evaluated the
performance of its operating segments based on operating profits or
losses. Operating profit or loss for each segment includes research and
development, sales, marketing and administrative charges directly
attributable to the segment together with the allocation of certain
corporate overhead and administrative charges. Costs excluded from
segment operating profit or loss primarily consist of unallocated
corporate expenses, including other income, interest income and income
taxes. The Company does not include inter-segment transfers for internal
reporting purposes. Segment assets include accounts receivable -net,
inventory, property-net, and other miscellaneous assets. Corporate and
unallocated assets include cash and cash equivalents, duties receivable,
deferred income taxes, certain other assets, certain unallocated
property-net, and miscellaneous assets.
Summary information by segment for the three months ended March 31, 1999 and
1998 is as follows:
<TABLE>
<CAPTION>
DIGITAL IMAGING CORPORATE
SOLUTIONS AND AND TOTAL
TEXTILE UNALLOCATED COMPANY
----------------------------------------------------------------------
<S> <C> <C> <C> <C>
NET SALES 1999 $ 28,982 $ - $ 28,982
1998 23,517 - 23,517
OPERATING INCOME 1999 658 - 658
1997 (2,060) - (2,060)
</TABLE>
7) SUBSEQUENT EVENT - On April 22, 1999, the Company consolidated its
Digital Imaging Solutions and Textile business units in order to further
leverage the Company's resources in support of its solutions-based,
vertical market strategy.
5
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(in thousands, except percentages)
This discussion may contain forward-looking statements that involve risks
and uncertainties. Our actual results may differ materially from the results
discussed in such forward-looking statements. Factors that might cause such
a difference include, but are not limited to, those discussed in "Risks and
Uncertainties" below. We undertake no obligation to release publicly the
results of any revisions to these forward-looking statements to reflect
events or circumstances arising after the date hereof.
The following table sets forth, as a percentage of net sales,
certain consolidated statements of income data for the periods indicated.
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------
1999 1998
-------------------------------------------------------------
<S> <C> <C>
NET SALES 100.0% 100.0%
COST OF SALES 57.2% 62.2%
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GROSS PROFIT 42.8% 37.8%
-------------------------------------------------------------
MARKETING AND SELLING 19.7% 24.5%
RESEARCH AND DEVELOPMENT 10.1% 11.1%
GENERAL AND ADMINISTRATIVE 10.7% 11.0%
-------------------------------------------------------------
INCOME (LOSS) FROM OPERATIONS 2.3% (8.8%)
OTHER INCOME - 4.3%
INTEREST EXPENSE - NET (0.4%) (0.4%)
-------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME Taxes 1.9% (4.9%)
PROVISION FOR INCOME TAXES 0.7% (1.8%)
-------------------------------------------------------------
NET INCOME (LOSS) 1.2% (3.1%)
-------------------------------------------------------------
</TABLE>
RESULTS OF OPERATIONS
NET SALES - Our net sales for the three-month period ended March 31, 1999
increased 23% over the same period of 1998. This increase was due primarily
to sales of the NovaJet Pro 600e which was introduced in May 1998. Also
contributing to the increase was the cessation of rebate programs which were
required to match competitive offerings during 1998. During the first
quarter of 1999, supply sales increased 5% over the first quarter of 1998,
and accounted for approximately 32% of net sales during the first quarter of
1999 versus 38% during the same period of 1998. Net sales to OEM customers
for the first quarter of 1999 remained flat when compared to the first
quarter of 1998, and accounted for 20% of product sales in the first quarter
of 1999 versus 25% during the same period of 1998.
One customer, Tekgraf, Inc., a U.S. distributor, accounted for 14% of net
sales during the first quarter of 1999, whereas no one customer accounted for
more than 10% of net sales during the first quarter of 1998.
COST OF SALES - Cost of sales includes costs related to product shipments,
including materials, labor, overhead, inventory reserves, manufacturing
variances, and other direct or allocated costs involved in the manufacture,
warehousing, delivery, support and maintenance of products. Cost of sales as
a percentage of net sales decreased to 57% during the first quarter of 1999
down from 62% during the same period of 1998, causing a comparable increase
in gross profit/margin percentages. This decrease was due largely to an
increase in average selling prices due to the cessation of the rebate
programs and the continued strength in sales of the high margin products,
primarily the NovaJet Pro 600e. Also contributing to the decrease was the
effect of cost reduction programs that have been in place throughout the last
two quarters. Our future success will depend, in part, on our
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ability to develop and manufacture competitive higher margin products and
continue to achieve cost reductions for our existing products.
MARKETING AND SELLING - Marketing and selling expenses were 20% of net
sales during the first quarter of 1999 compared to 25% during the same period
of 1998 and decreased by 1% in absolute dollars from the first quarter of
1998. This decrease was due to decreased trade show, advertising and
promotional activity as a result of a more focused and cost effective
approach to marketing and selling. As a result of the consolidation of our
printer and supplies business units, and most recently our textile business
unit, into one business unit, marketing and selling expenses during the
remainder of 1999 are expected to remain at levels below prior periods as we
intend to continue to promote our products and support our marketing and
selling activities in a more cost effective manner. We may, however, need to
increase costs related to marketing programs required to support our
distribution channel.
RESEARCH AND DEVELOPMENT - Research and development spending during the
first quarter of 1999 grew by 12% in absolute dollars over the same period of
1998, but decreased as a percentage of sales from 11% during the first
quarter of 1998 to 10% during the first quarter of 1999. The increase in
spending was driven by new product development. We expect to continue to
invest significant resources in our strategic programs and enhancements to
existing products and consequently expect that 1999 research and development
expenses will continue to increase in absolute dollars over 1998.
GENERAL AND ADMINISTRATIVE - General and administrative expenses were 11%
of net sales during the first quarter of both 1999 and 1998 and increased by
20% in absolute dollars over the first quarter of 1998. This increase was
due largely to increased legal fees related primarily to the numerous
lawsuits in which we are currently engaged.
OTHER INCOME - Other income for the first quarter of 1998 included
payments received under a product development and license agreement signed
during the quarter. Under this agreement, we are assisting in the
development of a wide-format color inkjet product targeted for markets
outside of our focus. We received additional reimbursements for engineering
expenses in 1998 and the first quarter of 1999 and will receive royalties on
future product sales, if any.
INTEREST EXPENSE - NET - Interest expense - net during the first quarter
of 1999 totaled $118 compared to $100 during the first quarter of 1998.
Increased average amounts outstanding on our line of credit during the first
quarter of 1999 caused the increase in interest expense.
PROVISION FOR INCOME TAXES - The effective income tax rate was 35% for the
first quarter of 1999 compared to 37% for the first quarter of 1998. The
decrease in the effective tax rate is due largely to a tax benefit received
in 1999 related to taxable international income that was not available in
1998 due to a lack of taxable international income.
NET INCOME(LOSS) - The previously described elements caused net income
during the first quarter of 1999 to stand at $349 compared to a net loss of
$726 during the first quarter of 1998.
LIQUIDITY AND CAPITAL RESOURCES
We have historically funded our operations primarily through cash flow
provided from operations. As of March 31, 1999, we had cash and cash
equivalents totaling $1,535 and working capital of $31,466. In comparison,
we had cash and cash equivalents totaling $586, and working capital of
$31,320 as of December 31, 1998. The increase in cash and cash equivalents
was due primarily to the receipt of an income tax refund, collections of
accounts receivable and operating income during the first quarter of 1999.
We have received, and anticipate we will continue to receive, the majority
of our cash from collections of accounts receivable from our distributors and
OEMs. These groups in general have a history of timely payments;
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however, an increasing amount of international sales can increase accounts
receivable balances due to traditionally slower payments by our international
customers.
At March 31, 1999, net accounts receivable decreased by $1,359 from 1998's
year end balance of $29,063. This decrease was due primarily to increased
collections and higher net sales from domestic customers, who typically pay
faster than our international customers.
We invest our excess cash in money market accounts and have established
guidelines relative to diversification and maturities to maintain safety and
liquidity. These guidelines are periodically reviewed and modified to take
advantage of trends in yields and interest rates. We have not experienced,
to date, any losses on our short-term investments.
Inventory levels decreased by $950 at March 31, 1999 from $16,205 at the
end of 1998. This decrease was primarily attributable to a more focused
effort to reduce finished good inventories while maintaining required
availability to meet demand.
During the quarters ended March 31, 1999 and 1998, we made capital
expenditures of $695 and $1,524, respectively. In the first quarter of 1998
we primarily incurred costs related to the implementation of a new
enterprise-wide information system, whereas 1999's amounts were related
primarily to computer and related systems. During the remainder of 1999, we
plan to increase our capital expenditures, especially for tooling related to
new products, computers and related systems and network assets.
At March 31, 1999, we had available a $20,000 revolving line of credit
which expires in January 2000. $2,500 was outstanding under the line of
credit at March 31, 1999 and $6,000 at December 31, 1998. The line requires
us to maintain certain financial ratios. At March 31, 1999, we were not in
compliance with one financial covenant which was subsequently waived by the
bank. We are currently renegotiating the credit agreement with the bank,
including lowering the available amount to $15,000. The new line would be
secured by certain of our assets with a borrowing base limited to eligible
accounts receivable and inventory and would redefine the financial covenants.
During this process, the bank has permitted us to continue to make
withdrawals from the line.
We believe that our existing cash and cash equivalents, cash generated
from operations, funds available from various financing alternatives
involving our owned headquarter facilities, and funds available under the
bank line of credit will be sufficient to satisfy our currently anticipated
working capital needs. Actual cash requirements may vary from planned
amounts, depending on the timing of the launch and extent of acceptance of
new products, as well as the selling price and costs of these products.
There can be no assurances that future cash requirements to fund operations
will not require us to seek additional capital, or that such additional
capital will be available when required on terms acceptable to us. To date,
inflation has not had a significant effect on our operating results.
YEAR 2000 COMPLIANCE - We utilize computer technologies throughout our
business to conduct our day-to-day operations. Computer technologies include
both information technology in the form of hardware and software, as well as
embedded technology in our facilities systems and equipment. We must
determine whether our products and systems are capable of recognizing and
processing date sensitive information properly as the year 2000 approaches.
To do so, we are using a multi-phased concurrent approach. Specific project
phases include: awareness, assessment, remediation, validation and
implementation. We have completed the awareness phase of this project.
Furthermore, we have nearly completed the assessment phase and are well into
the remediation phase.
All of our current products are year 2000 compliant. Our recent
enterprise-wide information system implementation should mitigate most
internal problems as the system vendors have represented that these systems
are year 2000 compliant. We are actively correcting and replacing those other
systems which are not year 2000 ready. We currently intend to substantially
complete the remediation, validation and implementation phases of the year
2000 project prior to July 31, 1999. This process includes the testing of
critical systems to ensure that year 2000 readiness has been accomplished. If
we determine that we may be unable to remediate and properly test affected
systems on a timely basis, we intend to develop appropriate contingency plans
for any such mission-critical systems at the time such determination is made.
While we are not presently aware of any significant exposure that our systems
will not be
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properly remediated on a timely basis, there can be no assurances that all
year 2000 remediation processes will be completed and properly tested before
the year 2000, or that contingency plans will sufficiently mitigate the risk
of a year 2000 readiness problem. An interruption of our ability to conduct
our business due to a year 2000 readiness problem could have a material
adverse effect on us.
Due to the recent implementation of the enterprise-wide information
system, we estimate that the additional aggregate costs of our year 2000
project will not be material. A portion of these costs, primarily those not
related to the implementation of the enterprise-wide information system, is
not likely to be incremental costs, but rather will represent the
redeployment of existing resources. This reallocation of resources is not
expected to have a significant impact on our day-to-day operations. The
anticipated impact and costs of the project, as well as the date on which we
expect to complete the project, are based on our best estimates using
information currently available and numerous assumptions about future events.
However, there can be no guarantee that these estimates will be achieved and
actual results could differ materially from those plans. Based on our current
estimates and information currently available, we do not anticipate that the
costs associated with this project will have a material adverse effect on our
consolidated financial position, results of operations or cash flows in
future periods.
We are in the process of communicating with our significant suppliers,
customers and critical business partners to determine the extent to which we
may be vulnerable in the event that those parties fail to properly remediate
their own year 2000 issues. We have taken steps to monitor the progress made
by those parties, and to the extent possible, plan to test critical system
interfaces, as the year 2000 approaches. We will develop appropriate
contingency plans in the event that a significant exposure is identified
relative to the dependencies on third-party systems. While we are not
presently aware of any such significant exposure, there can be no guarantee
that the systems of third-parties on which we rely will be converted in a
timely manner, or that a failure to properly convert by another company would
not have a material adverse effect on us.
RISKS AND UNCERTAINTIES
OUR QUARTERLY OPERATING RESULTS CAN FLUCTUATE SIGNIFICANTLY.
Our quarterly operating results can fluctuate significantly depending on a
number of factors. Any one of these factors could have a material adverse
effect on our financial condition or results of operations. These factors
include:
- timing of product announcements and subsequent introductions of products
by us and our competitors;
- timing of shipments of our products, including the mix of product
families shipped;
- changes in prices by us and our competitors;
- market acceptance of new products;
- availability and cost of components;
- price protection for selling price reductions offered to customers.
- currency fluctuations; and
- seasonality.
In addition, the timing of expenditures for staffing and related support
costs, advertising, trade show attendance, promotion, research and
development expenditures, and, of course, changes in general economic
conditions can impact quarterly performance. We may experience significant
quarterly fluctuations in net sales as well as operating expenses with
respect to future new product introductions. In addition, our component
purchases, production and spending levels are based upon forecast demand for
our products. Accordingly, any inaccuracy in forecasting could adversely
affect our financial condition and results of operations in any financial
period. Demand for our products could be adversely affected by a slowdown in
the overall demand for computer systems, printer products or digitally
printed images. Failure to complete shipments during a quarter also could
have a material adverse effect on our financial condition or results of
operations. Quarterly results are not necessarily indicative of future
performance for any particular period. We may not be able to maintain the
levels of sales and profitability experienced over the past several years on
a quarterly or annual basis.
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THE MARKETS FOR OUR PRODUCTS ARE HIGHLY COMPETITIVE AND RAPIDLY CHANGING
AND WE MAY NOT BE SUCCESSFUL IN COMPETING IN THIS MARKET.
The markets for our printers and supplies are highly competitive and
rapidly changing. Several new competitors, including Seiko Epson Corporation,
have entered the market. Our principal competitor is Hewlett-Packard
Company, which dominates the CAD category of the wide-format inkjet markets
and is our principal competition in the graphic arts category. In addition
to direct competition in inkjet printers and related supplies, our products
also face competition from other technologies in the wide-format market. The
competition to sell ink, media and software products to the customer is also
intense. Some of our current and prospective competitors, particularly
Hewlett-Packard and Epson, have significantly greater financial, technical,
manufacturing and marketing resources than us. Our ability to compete in the
wide-format inkjet market depends on a number of factors within and outside
our control, including:
- the success and timing of product introductions by us and our
competitors;
- selling prices;
- product performance;
- product distribution;
- marketing ability; and
- customer support.
A key element of our strategy is to provide competitively priced, quality
products, yet we may not be able to do so. We reduced prices on many of our
products in 1998 and will likely continue to do so in the future. Price
reductions, while partially offset by similar reductions in product costs,
have affected gross margins and likely will continue to affect gross margins
and may adversely affect our financial condition and results of operations in
the future.
THE MARKETS IN WHICH WE COMPETE ARE CHARACTERIZED BY SHORT PRODUCT LIFE
CYCLES AND REDUCTIONS IN UNIT SELLING PRICES WHICH MAY HAVE AN ADVERSE
EFFECT ON OUR BUSINESS.
The markets for wide-format printers and related supplies are
characterized by rapidly evolving technology, frequent new product
introductions and significant price competition. Consequently, short product
life cycles and reductions in unit selling prices due to competitive
pressures over the life of a product are common. Our future success will
depend on our ability to develop and manufacture competitive products and
achieve cost reductions for our existing products. Advances in technology
will require increased investment to maintain our market position. Our
financial condition and results of operations could be adversely affected if
we are unable to develop and manufacture new, competitive products in a
timely manner.
THE GROWTH OF OUR BUSINESS WILL REQUIRE SUBSTANTIAL CAPITAL RESOURCES THAT
MAY NOT BE AVAILABLE WHEN NEEDED.
The growth of our business will require the commitment of substantial
capital resources. If funds are not available from operations, we will need
additional funds. Such additional funds may not be available when required
on terms acceptable to us. Insufficient funds may require us to delay,
reduce or eliminate some or all of our planned activities.
OUR SUCCESS IS DEPENDENT ON OUR ABILITY TO ATTRACT AND RETAIN QUALIFIED
EMPLOYEES AND CONSULTANTS.
Our success is dependent, in part, on our ability to attract and retain
qualified management and technical employees. Competition for such personnel
is intense. The inability to attract additional key employees or the loss of
one or more key employees could adversely affect us. We do not have
employment agreements with or life insurance on members of senior management.
We may not be able to retain our key personnel. We rely heavily on industry
consultants and other specialists to assist and influence decisions, keep
abreast of technological and industry advances, and assist in other
processes. A delay in product introduction is possible to the extent key
consultants are not available.
10
<PAGE>
MANY OF OUR COMPONENTS ARE SUPPLIED BY SINGLE-SOURCE SUPPLIERS THAT MAY NOT
BE ABLE TO BE REPLACED WITHOUT DISRUPTING OUR OPERATIONS.
Certain components used in our products are only available from single
sources. We generally do not have long-term agreements with our suppliers.
Although alternate suppliers are readily available for many of these
components, for some components the process of qualifying replacement
suppliers, replacing tooling or ordering and receiving replacement components
could take several months and cause substantial disruption to our operations.
If a supplier is unable to meet our needs or supplies parts which we find
unacceptable, we may not be able to meet production demands. Certain key
components of our products are supplied indirectly by our principal
competitor, Hewlett-Packard. Any significant increase in component prices or
decrease in component availability could have a material adverse effect on
our business.
IF OUR COMPETITORS ARE SUCCESSFUL IN ESTABLISHING THAT THEIR INTELLECTUAL
PROPERTY RIGHTS ARE VIOLATED BY OUR PRODUCTS, OUR BUSINESS WOULD BE
ADVERSELY AFFECTED.
From time to time, certain competitors, including Hewlett-Packard, have
asserted patent rights relevant to our business. We expect that this will
continue. We carefully evaluate each assertion relating to our products. If
our competitors are successful in establishing that asserted rights have been
violated, we could be prohibited from marketing the products that incorporate
such rights. We could also incur substantial costs to redesign our products
or to defend any legal action taken against us. If our products should be
found to infringe upon the intellectual property rights of others, we could
be enjoined from further infringement and be liable for any damages. The
measures adopted by us for the protection of our intellectual property may
not be adequate to protect our interests. In addition, our competitors may
independently develop technologies that are substantially equivalent or
superior to our technologies.
A SIGNIFICANT PORTION OF OUR NET SALES IS DERIVED FROM SALES TO COUNTRIES
OUTSIDE THE UNITED STATES AND FACTORS OUTSIDE OUR CONTROL COULD ADVERSELY
AFFECT OUR SALES IN THOSE COUNTRIES.
For the quarters ended March 31, 1999 and 1998, sales outside the United
States represented approximately 56% and 65% of our net sales, respectively.
Even with the recent decline in our business in Asia, we expect export sales
to continue to represent a significant portion of our sales. All of our
products sold in international markets are denominated in U.S. dollars. An
increase in the value of the U.S. dollar relative to foreign currencies could
make our products less competitive in these markets. International sales and
operations may also be subject to risks such as:
- imposition of governmental controls;
- export license requirements;
- restrictions on the export of critical technology;
- currency exchange fluctuations;
- political instability;
- trade restrictions;
- changes in tariffs;
- difficulties in staffing and managing international operations; and
- collecting accounts receivable.
In addition, the laws of certain countries do not protect our products
and intellectual property rights to the same extent as the laws of the United
States. As we continue to pursue our international business, these factors
may have an adverse effect on our sales and, consequently, on our business.
WE ARE DEPENDENT ON OUR DISTRIBUTORS AND OEMS TO SELL AND MARKET OUR
PRODUCTS AND THEY MAY NOT DEVOTE SUFFICIENT RESOURCES TO THIS TASK TO
ENSURE OUR SUCCESS.
Our sales are principally made through independent distributors, which
may carry competing product lines. Such distributors could reduce or
discontinue sales of our products, which could have a material adverse effect
on our business. These distributors may not devote the resources necessary
to provide effective sales, service and marketing support of our products.
In addition, we are dependent upon the continued viability and financial
stability of these distributors, many of which are organizations with limited
capital. These distributors, in turn, are substantially dependent upon their
11
<PAGE>
dealers, general economic conditions and other unique factors affecting the
wide-format printer market. We believe that our future growth and success
will continue to depend in large part upon our distribution channels. Actual
bad debts may in the future exceed recorded allowances resulting in a
material adverse effect on our business. In order to prevent inventory
write-downs, to the extent that OEM and private label customers do not
purchase products as anticipated, we may need to convert such products to
make them salable to other customers. Such a conversion would increase
product costs and would likely result in a delay in selling such products.
MANAGEMENT OF THE GROWTH OF OUR BUSINESS MAY PLACE STRAINS ON OUR
OPERATIONS.
We have experienced growth in the past that placed, and, if continued,
will continue to place, a significant strain on our management, employees,
systems and operations. Our future operating results will depend on our
ability to continue to broaden our senior management group, attract, hire and
retain skilled employees and enhance or replace existing operational
information and financial control systems. We may encounter difficulties in
successfully integrating new personnel into the organization, and changes to
our information and financial control systems may not be effective. Our
inability to manage growth effectively could have a material adverse effect
on our business.
AS THE MARKET PRICE OF OUR COMMON STOCK HAS BEEN VOLATILE IN THE PAST AND
MAY CONTINUE TO BE SO IN THE FUTURE, AN INVESTMENT IN OUR COMMON STOCK MAY
YIELD UNCERTAIN RESULTS.
The market price of our common stock has fluctuated significantly since
our initial public offering in December 1993. We believe factors such as the
following could cause further significant volatility in the price of the
common stock:
- general stock market trends;
- announcements of developments related to our business;
- fluctuations in our operating results;
- general conditions in the computer peripheral market and the markets we
serve or in the worldwide economy;
- shortfalls in sales or earnings from securities analysts' expectations;
- announcements of technological innovations or new inkjet products or
enhancements by us or our competitors;
- developments in patents or other intellectual property rights; and
- developments in our relationships with our customers or suppliers.
In addition, in recent years the stock market in general, and the market
for shares of technology stocks in particular, have experienced extreme
volatility, which has often been unrelated to the operating performance of
affected companies. The market price of our common stock may continue to
experience significant fluctuations that are unrelated to our operating
performance.
WE HAVE NOT COMPLETED OUR SURVEY OF OUR VENDORS OR CUSTOMERS OR OUR TESTING
OF THE SYSTEMS USED IN OUR BUSINESS TO DETERMINE IF THEY ARE YEAR 2000
COMPLIANT; FAILURE TO BE YEAR 2000 COMPLIANT COULD HAVE AN ADVERSE EFFECT
ON OUR BUSINESS.
All year 2000 remediation processes may not be completed and properly
tested before the year 2000. Any contingency plans we develop may not
sufficiently mitigate the risk of a year 2000 readiness problem. An
interruption of our ability to conduct our business due to a year 2000
readiness problem could have a material adverse effect on us. For a
discussion of our year 2000 initiatives, please see "Year 2000 Compliance".
WE DO NOT PAY DIVIDENDS ON OUR COMMON STOCK AND YOU WILL HAVE TO RELY ON
INCREASES IN ITS PRICE TO GET A RETURN ON YOUR INVESTMENT.
We have not paid dividends on our common stock. We currently intend to
continue this policy to retain earnings, if any, for use in our business. In
addition, our line of credit arrangement prohibits the payment of cash
dividends without prior bank approval if amounts are outstanding under such
line of credit.
12
<PAGE>
OUR CHARTER DOCUMENTS AND RIGHTS PLAN MAY PREVENT A CHANGE OF CONTROL WHICH
IS IN YOUR BEST INTERESTS.
The stockholder rights plan and our charter documents may discourage
certain types of transactions involving an actual or potential change in
control of your company, including transactions in which you might otherwise
receive a premium for your shares over then-current market prices.
Provisions in the charter documents may limit your ability to approve
transactions that you deem to be in your best interests.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
(in thousands, except percentages)
Our only financial instruments with market risk exposure are revolving
line of credit borrowings, which totaled $2,500 at March 31, 1999. The
amount of variable rate debt fluctuates during the year based upon our cash
requirements. Maximum borrowings at any time during the first quarter of 1999
were $7,300. Based on the outstanding balance at March 31, 1999, an adverse
10% change in the interest rate underlying these borrowings would result in a
$20 annual change in our pre-tax earnings and cash flow.
These instruments are non-trading in nature and carry interest at the bank's
prime rate (7.75% at March 31, 1999) or at our option, a rate based on the
London Interbank Overnight Rate (5.00% at March 31, 1999 plus 1.25 to 1.75%
based upon certain ratios). Our objective in maintaining these variable rate
borrowings is the flexibility obtained regarding early repayment without
penalties and lower overall cost as compared with fixed rate borrowings.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, we may be involved in litigation relating to claims
arising out of our operations in the usual course of business.
In January 1999, we filed a lawsuit against Hewlett Packard in the
California Superior Court for the County of San Francisco, alleging sales of
competitive products below cost and as loss leaders, in violation of the
California Unfair Trade Practices Act. We are seeking injunctive relief
enjoining Hewlett Packard from offering to sell or selling any article or
product below cost and monetary damages. Hewlett Packard has since
discontinued such sales practices, however, we are still continuing to seek
monetary damages.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES (in thousands)
At March 31, 1999 we had available a $20,000 revolving line of credit
which expires in January 2000. $2,500 was outstanding under the line of
credit at March 31, 1999 and $6,000 at December 31, 1998. The line requires
us to maintain certain financial ratios. At March 31, 1999 we were not in
compliance with one financial covenant which was subsequently waived by the
bank. We are currently renegotiating the credit agreement with the bank,
including lowering the available amount to $15,000. The new line would be
secured by certain assets of the Company with a borrowing base limited to
eligible accounts receivable and inventory and would redefine the financial
covenants. During this process, the bank has permitted us to continue to
make withdrawals from the line.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
13
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<S> <C>
3.1 Certificate of Incorporation of the Company (filed as Exhibit 3.1).(1)
3.2 Bylaws of the Company (filed as Exhibit 3.2). (1)
3.3 Certificate of Designation for Series A Junior Participating Preferred
Stock (filed as Exhibit 3.2).(2)
4.1 Rights Agreement, dated as of March 19, 1998, between the Company and
Harris Trust Company of California, which includes the Form of
Certificate of Designation for the Series A Preferred Stock as Exhibit
A, the Form of Rights Certificate as Exhibit B and the Summary of
Rights to Purchase Shares as Exhibit C. (2)
4.2 First Amendment to the Company's Rights Plan.(3)
27.1 Financial Data Schedule.
</TABLE>
- ----------------
(1) Filed as an exhibit to Registrant's Current Report on Form 8-K dated
January 5, 1998 and incorporated herein by reference.
(2) Filed as an exhibit to Registrant's Current Report on Form 8-K dated
March 20, 1998 and incorporated herein by reference.
(3) Filed as exhibit to the Registrant's Registration Statement on
Form 8-A12G/A (No. 000-23034) and incorporated herein by reference.
(b) Reports on Form 8-K - No reports on Form 8-K were filed during the
quarter ended March 31, 1999.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: May 14, 1999
ENCAD, Inc.
(Registrant)
/s/ Todd W. Schmidt
-----------------------------------
(Todd W. Schmidt)
Vice President, Chief Financial Officer
(Principal Financial and Accounting Officer)
14
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE ENCAD,
INC. MARCH 31, 1999 FORM 10-Q AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 1,535
<SECURITIES> 0
<RECEIVABLES> 27,704
<ALLOWANCES> 0
<INVENTORY> 15,255
<CURRENT-ASSETS> 50,897
<PP&E> 28,127
<DEPRECIATION> 12,649
<TOTAL-ASSETS> 68,261
<CURRENT-LIABILITIES> 19,431
<BONDS> 0
0
0
<COMMON> 12
<OTHER-SE> 47,991
<TOTAL-LIABILITY-AND-EQUITY> 68,261
<SALES> 28,982
<TOTAL-REVENUES> 28,982
<CGS> 16,579
<TOTAL-COSTS> 16,579
<OTHER-EXPENSES> 11,745
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 118
<INCOME-PRETAX> 540
<INCOME-TAX> 191
<INCOME-CONTINUING> 349
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 349
<EPS-PRIMARY> 0.03
<EPS-DILUTED> 0.03
</TABLE>
