<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1998
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 0-23006
DSP GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 94-2683643
(State or other jurisdiction of (I.R.S. employer identification number)
incorporation or organization)
3120 Scott Boulevard, Santa Clara, California 95054
---------------------------------------------------------------
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (408) 986-4300
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
--- ---
As of October 31, 1998 there were 9,385,875 shares of Common Stock ($.001 par
value per share) outstanding.
<PAGE>
INDEX
DSP GROUP, INC.
<TABLE>
<CAPTION>
Page No.
--------
<S> <C>
PART I. FINANCIAL INFORMATION
- -------------------------------
Item 1. Financial Statements (Unaudited)
Condensed consolidated balance sheets-September 30, 1998
and December 31, 1997. . . . . . . . . . . . . . . . . . . . . . . . 3
Condensed consolidated statements of income-Three and nine
months ended September 30, 1998 and 1997 . . . . . . . . . . . . . . 4
Condensed consolidated statements of cash flows-Nine
months ended September 30, 1998 and 1997 . . . . . . . . . . . . . . 5
Condensed consolidated statements of Stockholders' Equity -
Three and nine months ended September 30, 1998 and 1997. . . . . . . 6
Notes to condensed consolidated financial statements-
September 30, 1998 . . . . . . . . . . . . . . . . . . . . . . . . . 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations. . . . . . . . . . . . . . . . . . . . . .12
Item 3. Quantitative and Qualitative Disclosures About Market Risk . . . . .19
PART II. OTHER INFORMATION
- ----------------------------
Item 1. Legal Proceedings. . . . . . . . . . . . . . . . . . . . . . . .20
Item 2. Changes in Securities. . . . . . . . . . . . . . . . . . . . . .21
Item 3. Defaults upon Senior Securities. . . . . . . . . . . . . . . . .21
Item 4. Submission of Matters to a Vote of Security Holders. . . . . . .21
Item 5. Other Information. . . . . . . . . . . . . . . . . . . . . . . .21
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . .21
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21
</TABLE>
<PAGE>
PART 1. FINANCIAL INFORMATION
- ------------------------------
ITEM 1. FINANCIAL STATEMENTS
DSP GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1998 1997
------------- ------------
<S> <C> <C>
ASSETS (Unaudited) (Note)
CURRENT ASSETS:
Cash and cash equivalents $ 6,355 $ 7,325
Marketable securities 56,234 58,619
Accounts receivable, net 8,410 3,594
Inventories 2,226 4,116
Deferred income taxes 2,850 2,850
Prepaid expenses and other 1,878 1,441
----------- -----------
TOTAL CURRENT ASSETS 77,953 77,945
Property and equipment, at cost: 10,811 9,010
Less accumulated depreciation and amortization (6,696) (5,522)
----------- ------------
4,115 3,488
Other investments, net of accumulated amortization 1,586 2,935
Other assets 280 150
Deferred income taxes 650 650
----------- ----------
TOTAL ASSETS $84,584 $85,168
----------- ----------
----------- ----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $3,242 $3,319
Other current liabilities 9,860 7,679
---------- ---------
TOTAL CURRENT LIABILITIES 13,102 10,998
Commitments and contingencies
STOCKHOLDERS' EQUITY:
Common Stock 9 10
Additional paid-in capital 73,614 74,418
Unrealized gain on marketable equity security -- 1,050
Retained earning (deficit) 9,639 (1,308)
Treasury stock at cost (11,780) --
----------- -----------
TOTAL STOCKHOLDERS' EQUITY 71,482 74,170
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $84,584 $85,168
----------- ----------
----------- ----------
</TABLE>
Note: The balance sheet at December 31, 1997 has been derived from the audited
financial statements at that date.
See notes to condensed consolidated financial statements.
3
<PAGE>
DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------------------- -------------------------
1998 1997 1998 1997
----------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
REVENUES:
Product sales $13,504 $13,547 $ 39,950 $37,626
Licensing, royalties and other 3,804 3,011 9,783 7,752
--------- --------- --------- ----------
TOTAL REVENUES 17,308 16,558 49,733 45,378
COST OF REVENUES:
Cost of product sales 8,110 8,232 23,698 23,306
Cost of licensing, royalties and other 157 276 355 1,122
-------- -------- --------- --------
TOTAL COST OF REVENUES 8,267 8,508 24,053 24,428
-------- -------- --------- --------
GROSS PROFIT 9,041 8,050 25,680 20,950
OPERATING EXPENSES:
Research and development 2,806 2,084 7,334 6,043
Sales and marketing 1,243 1,220 3,834 3,551
General and administrative 1,248 1,168 3,529 3,372
-------- -------- -------- -------
TOTAL OPERATING EXPENSES 5,297 4,472 14,697 12,966
-------- -------- -------- -------
OPERATING INCOME 3,744 3,578 10,983 7,984
OTHER INCOME (EXPENSE):
Interest and other income 926 753 2,784 2,006
Interest expense and other (26) (55) (132) (176)
Gain on sale of marketable
equity security -- -- 1,086 --
Equity in loss of equity
method investees, net (8) (42) (123) (559)
-------- ------- -------- -------
INCOME BEFORE PROVISION FOR INCOME TAXES 4,636 4,234 14,598 9,255
Provision for income taxes 1,161 886 3,651 1,666
-------- -------- ------- --------
NET INCOME $3,475 $3,348 $10,947 $ 7,589
-------- -------- ------- --------
-------- -------- ------- --------
NET INCOME PER SHARE:
Basic $ 0.36 $ 0.34 $ 1.11 $0.79
Diluted $ 0.35 $ 0.32 $ 1.08 $0.76
SHARES USED IN PER SHARE COMPUTATIONS:
Basic 9,716 9,773 9,892 9,641
Diluted 9,936 10,530 10,161 10,018
</TABLE>
See notes to condensed consolidated financial statements.
4
<PAGE>
DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------
1998 1997
----------- -----------
<S> <C> <C>
NET CASH PROVIDED BY OPERATING ACTIVITIES $ 9,782 $ 15,848
INVESTING ACTIVITIES
Purchase of available-for-sale marketable securities (45,222) (48,139)
Sale of available-for-sale marketable securities 47,607 32,619
Purchases of equipment (1,814) (1,899)
Sale of equipment -- 166
Proceeds from sale of Nexus 1,262 --
--------- --------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 1,833 (17,253)
--------- --------
FINANCIAL ACTIVITIES
Sale of Common Stock for cash upon exercise of
options and employee stock purchase plan 1,042 4,144
Purchase of treasury stock (13,627) --
--------- --------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (12,585) 4,144
--------- --------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS $ (970) $ 2,739
--------- --------
--------- --------
</TABLE>
See notes to condensed consolidated financial statements.
5
<PAGE>
DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
RETAINED
EARNINGS
ADDITIONAL (ACCUMULATED TREASURY OTHER TOTAL
THREE MONTHS ENDED COMMON STOCK PAID-IN EARNINGS STOCK COMPREHENSIVE STOCKHOLDERS'
SEPTEMBER 30, 1998 SHARE AMOUNT CAPITAL DEFICIT) AT COST INCOME EQUITY
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at June 30, 1998 9,785 $ 10 $73,968 $ 6,164 $ (6,904) $ -- $73,238
Net income -- -- -- 3,475 -- -- 3,475
Comprehensive income -- -- -- -- -- -- 76,713
Exercise of Common Stock
options by employees 15 -- (167) -- 298 -- 131
Sale of Common Stock under
employee stock purchase plan 19 -- (187) -- 399 -- 212
Purchase of Treasury stock (385) (1) -- -- (5,573) -- (5,574)
-------------------------------------------------------------------------------
Balance at September 30, 1998 9,434 $ 9 $73,614 $9,639 $(11,780) $ -- $71,482
-------------------------------------------------------------------------------
THREE MONTHS ENDED
SEPTEMBER 30, 1997
-------------------------------------------------------------------------------
Balance at June 30, 1997 9,641 $ 10 $67,613 $ (8,101) $ -- $ -- $59,522
Net income -- -- -- 3,348 -- -- 3,348
Exercise of Common Stock
options by employees 274 -- 3,312 -- -- -- 3,312
Sale of Common Stock under
employee stock purchase plan -- -- -- -- -- -- --
-------------------------------------------------------------------------------
Balance at September 30, 1997 9,915 $ 10 $70,925 $ (4,753) $ -- $ -- $66,182
-------------------------------------------------------------------------------
NINE MONTHS ENDED
SEPTEMBER 30, 1998
-------------------------------------------------------------------------------
Balance at December 31, 1997 10,094 $ 10 $74,418 $ (1,308) $ -- $1,050 $74,170
Net income -- -- -- 10,947 -- -- 10,947
Other comprehensive income,
Decrease in unrealized gain
on marketable equity
securities, net of
reclassification adjustment (a) -- -- -- -- -- (1,050) (1,050)
Comprehensive income -- -- -- -- -- -- 84,067
Exercise of Common Stock
options by employees 72 -- (733) -- 1,448 -- 715
Sale of Common Stock under
employee stock purchase plan 32 -- (71) -- 399 -- 328
Purchase of Treasury stock (764) (1) -- -- (13,627) -- (13,628)
-------------------------------------------------------------------------------
Balance at September 30, 1998 9,434 $ 9 $73,614 $ 9,639 $(11,780) $ -- $71,482
-------------------------------------------------------------------------------
(a) Disclosure of reclassification amount:
Unrealized holding gains arising during period $ 36
Less: reclassification for gains included in income (1,086)
-------
Net decrease in unrealized gain on marketable security $(1,050)
-------
NINE MONTHS ENDED
SEPTEMBER 30, 1997
-------------------------------------------------------------------------------
Balance at December 31, 1996 9,540 $ 10 $66,781 $ (12,342) $ -- $ -- $54,449
Net income -- -- -- 7,589 -- -- 7,589
Exercise of Common Stock
options by employees 352 -- 3,972 -- -- -- 3,972
Sale of Common Stock under
Employee stock purchase plan 23 -- 172 -- -- -- 172
-------------------------------------------------------------------------------
Balance at September 30, 1997 9,915 $ 10 $70,925 $ (4,753) $ -- $ -- $66,182
-------------------------------------------------------------------------------
</TABLE>
6
<PAGE>
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
(UNAUDITED)
NOTE A - BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
The accompanying unaudited condensed consolidated 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 only of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results for
the three and nine months ended September 30, 1998, are not necessarily
indicative of the results that may be expected for the year ended December
31, 1998. For further information, reference is made to the consolidated
financial statements and footnotes thereto included in the Company's Annual
Report on Form 10-K for the year ended December 31, 1997.
NOTE B - INVENTORIES
Inventory is valued at the lower of cost (first-in, first-out method) or
market. The components of inventory consist of the following (in thousands):
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
------------- ------------
<S> <C> <C>
Work-in-process $ 19 $ 16
Finished goods 2,207 4,100
--------- ---------
$ 2,226 $ 4,116
--------- ---------
--------- ---------
</TABLE>
7
<PAGE>
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE C - NET INCOME PER SHARE
Basic net income per share is based on the weighted average number of shares
of Common Stock outstanding during the period. For the same periods, diluted
net income per share further includes the effect of dilutive stock options
outstanding during the period. The following table sets forth the computation
of basic and diluted net income per share (in thousands except per share
amounts):
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------------ --------------------------
1998 1997 1998 1997
---------- ---------- ----------- ----------
<S> <C> <C> <C> <C>
Numerator:
Net income $ 3,475 $ 3,348 $10,947 $ 7,589
-------- -------- ------- --------
-------- -------- ------- --------
Denominator:
Weighted average number of shares of Common
Stock outstanding during the period used to
compute basic earnings per share 9,716 9,773 9,892 9,641
Incremental shares attributable to exercise of
outstanding options (assuming proceeds would
be used to purchase treasury stock) 220 577 269 377
-------- -------- ------- --------
Weighted average number of shares of
Common Stock used to compute diluted
earnings per share 9,936 10,350 10,161 10,018
-------- -------- ------- --------
-------- -------- ------- --------
Basic net income per share $0.36 $0.34 $1.11 $0.79
-------- -------- ------- --------
-------- -------- ------- --------
Diluted net income per share $0.35 $0.32 $1.08 $0.76
-------- -------- ------- --------
-------- -------- ------- --------
</TABLE>
8
<PAGE>
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE D - INVESTMENTS
The following is a summary of the cost of available-for-sale securities (in
thousands):
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
------------- ------------
<S> <C> <C>
Corporate obligations $ 37,239 $53,270
Government and other
agency's obligations 19,075 6,002
---------- ----------
$56,314 $59,272
---------- ----------
---------- ----------
Amounts included in
marketable securities $56,234 $58,619
Amounts included in
cash and cash equivalents 80 653
---------- ----------
$56,314 $59,272
---------- ----------
---------- ----------
</TABLE>
At September 30, 1998 and at December 31, 1997, the carrying amount of
securities approximated their fair market value and the amount of unrealized
gain or loss was not significant. Gross realized gains or losses for the
three months ended September 30, 1998 and 1997, were not significant. The
amortized cost of available-for-sale debt securities at September 30, 1998,
by contractual maturities, is shown below (in thousands):
<TABLE>
<CAPTION>
Amortized cost
--------------
<S> <C>
Due in one year or less $ 4,108
Due after one year to two years 52,206
--------
$ 56,314
--------
--------
</TABLE>
NOTE E - INCOME TAXES
The effective tax rate used in computing the provision for income taxes is
based on projected fiscal year income before taxes, including estimated
income by tax jurisdiction. The difference between the effective tax rate and
the statutory rate is due primarily to foreign tax holiday and tax exempt
income in Israel.
9
<PAGE>
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE F - SIGNIFICANT CUSTOMERS
Product sales to a distributor accounted for 47% and 39% of total revenues
for the three months ended September 30, 1998 and 1997, respectively, and 47%
and 32% of total revenues for the nine months ended September 30, 1998 and
1997, respectively. The loss of one or more major distributors or customers
could have a material adverse effect on the Company's business, financial
condition and results of operations.
NOTE G - OTHER INVESTMENTS
Other investments are comprised of: AudioCodes, Ltd.: AudioCodes, Ltd.
("AudioCodes") is an Israeli corporation primarily engaged in research,
development, production and marketing of voice communication products. In
July 1997, AudioCodes completed a private placement of additional equity
securities without the participation of the Company and, as a result, the
Company's equity ownership interest in AudioCodes was diluted from
approximately 35% to approximately 29%. The Company also has an option to
purchase up to an additional 5% of the outstanding stock of AudioCodes. The
condensed consolidated statements of income for the three months ended
September 30, 1998 and 1997, include a $8,000 and $42,000 equity loss,
respectively, in the Company's investment in AudioCodes.
Aptel Ltd. and Nexus Telecommunications Systems Ltd.: In July 1996, the
Company invested $2.0 million of cash for approximately 40% of the equity
interests in Aptel Ltd. ("Aptel"), an Israeli company. In connection with the
investment, the Company incurred a one-time write-off of acquired in-process
technology of $1.5 million. In October 1997, the Company invested
approximately $176,000 in convertible debentures issued by Aptel. In December
1997, the Company converted its debentures into equity and Aptel's
shareholders (including the Company) exchanged their shares in Aptel for
common shares of Nexus Telecommunications Systems Ltd. ("Nexus"), an Israeli
company registered and traded on the Nasdaq SmallCap Market. In April 1998,
the Company sold all of its Nexus shares in a private transaction and
realized a pre-tax one time gain on marketable equity securities of
approximately $1.1 million, which is included under "Other income (expense)"
in the Company's condensed consolidated statements of income for the nine
months ended September 30, 1998 and 1997.
NOTE H- REPURCHASE OF COMPANY'S COMMON STOCK
On January 27, 1998, the Company announced that its Board of Directors had
authorized management to repurchase up to 1,000,000 shares of the Company's
Common Stock from time to time on the open-market or in privately negotiated
transactions. In the three quarters of fiscal 1998, the Company repurchased
764,000 shares of its Common Stock at an average purchase price of $17.84 per
share. In the three months ended September 30, 1998, the Company repurchased
385,000 shares at an average purchase price of $14.48 per share.
10
<PAGE>
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE I- CONTINGENCIES
The Company is involved in certain claims arising in the normal course of
business, including claims that it may be infringing patent rights owned by
third parties. The Company is unable to foresee the extent to which these
matters will be pursued by the claimants or to predict with certainty the
eventual outcome. However, the Company believes that the ultimate resolution
of these matters will not have a material adverse effect on its financial
position, results of operations or cash flow.
In November 1995, after the Company's stock price declined, several lawsuits
were filed in the United States District Court for the Northern District of
California accusing the Company, its former Chief Executive Officer, and its
former Chief Financial Officer of issuing materially false and misleading
statements in violation of the federal securities laws. These lawsuits were
consolidated into a single amended complaint in February 1996. In the
amended complaint, plaintiffs sought unspecified damages on behalf of all
persons who purchased shares of the Company's Common Stock during the period
June 6, 1995 through November 10, 1995. On June 11, 1996, the Court granted
the Company's motion to dismiss the lawsuit, with leave to amend. The
plaintiffs filed an amended complaint on July 11, 1996. On March 7, 1997,
the Court issued an order dismissing with prejudice all claims based on
statements issued by the Company. The Court permitted plaintiffs to proceed
with their claims regarding statements the Company allegedly made to
securities analysts. The Court also permitted plaintiffs to amend their
complaint as to their claim that the Company is responsible for the
statements contained in analysts' reports, but the plaintiffs chose not to
amend their complaint. On November 5, 1997, the parties reached an agreement
in principle to settle the litigation. The Court approved the settlement on
September 4, 1998. There were no objections, and only one shareholder (who
purports to have purchased shares during the class period) opted out. The
settlement is being funded by insurance proceeds except for $50,000 funded by
the Company in order to fulfill the retention amounts under the Company's
insurance policy. The Company continues to deny all allegations in the law
suit.
11
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
TOTAL REVENUES. Total revenues increased to $17.3 million in the third
quarter of 1998 from $16.6 million in the third quarter of 1997. Total
revenues also increased to $49.7 million in the first three quarters of 1998
from $45.4 million in the first three quarters of 1997. The increase in the
third quarter of 1998 compared to the same period in 1997 was due to
increased revenues from licensing to new licensees. The increased revenues in
the first three quarters of 1998, compared to the same period in 1997, was
primarily due to increased revenues from the Company's TAD speech processors,
especially those utilizing flash memory and sold in Japan, as well as
increased revenues from licensing to new licensees.
Export sales, primarily consisting of TAD speech processors shipped to
customers in Europe and Asia, as well as license fees on DSP core designs,
represented 96% and 95% of total revenues for the three and nine months ended
September 30, 1998, respectively, and 90% and 91% of total revenues for the
three and nine months ended September 30, 1997, respectively. All export
sales are denominated in U.S. dollars.
Revenues from Tomen Electronics (a distributor), accounted for 47% of total
revenues for both the three and nine months ended September 30, 1998, and 39%
and 32% for the three and nine months ended September 30, 1997, respectively.
GROSS PROFIT. Gross profit as a percentage of total revenues increased to
52% in the third quarter of 1998 from 49% in the third quarter of 1997. The
increase in gross profit was primarily due to an increase in licensing
revenues, which have a higher gross profit than product sales. Product gross
profit as a percentage of product sales slightly increased to 40% in the
third quarter of 1998 compared to 39% in the third quarter of 1997, primarily
due to lower costs of manufactured products.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased to $2.8 million in the third quarter of 1998 from $2.1 million in
the third quarter of 1997. In the first nine months of 1998, research and
development expenses increased to $7.3 million from $6.0 million in the same
period of 1997. The increases were primarily due to an increase in external
services, additional Mask tapeouts for new and enhanced products, and an
increase in research and development personnel as compared to the same
periods in 1997.
SALES AND MARKETING EXPENSES. Sales and marketing expenses remained at the
same level of $1.2 million for both of the third quarters of 1998 and 1997,
respectively. In the first three quarters of 1998, sales and marketing
expenses increased to $3.8 million from $3.5 million in the comparable period
of 1997. Salaries and fringe benefits increased in 1998 compared to 1997,
primarily due to an increase in sales and marketing personnel, which was
partially offset by lower sales commissions and lower consulting costs. Sales
and marketing expenses as a percentage of total revenues were 7% and 8% in
both of the three and nine months ended September 30, 1998 and 1997,
respectively.
12
<PAGE>
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
were approximately $1.2 million in both the three months ended September 30,
1998 and 1997, respectively. In the first nine months of 1998 general and
administrative expenses increased slightly to $3.5 million compared to $3.4
million in the comparable period of 1997. These expenses as a percentage of
total revenues remained at a constant level of approximately 7% in both the
first three and nine months of 1998 and 1997, respectively.
OTHER INCOME (EXPENSE), NET. Interest and other income (expense), net was
$2.6 million for the nine months ended September 30, 1998, compared to $1.8
million for the nine months ended September 30, 1997. The increase was
primarily the result of higher levels of cash equivalents and marketable
securities in 1998 as compared with 1997, as well as higher yield of
financial investments.
EQUITY IN LOSS OF EQUITY METHOD INVESTEES, NET. Equity in loss of equity
method investees was an $8,000 and a $123,000 loss for the three and nine
months ended September 30, 1998 as compared to a $42,000 and a $559,000 loss
in the comparable periods ended September 30, 1997. The condensed
consolidated statements of income for the nine months ended September 30,
1997 include a $407,000 equity loss for the Company's proportionate share of
the results of operations of Aptel, and a loss of $152,000 for the Company's
equity basis in AudioCodes. In December 1997, Aptel's shareholders, including
the Company, exchanged their shares in Aptel for common shares of Nexus. The
Company's investment in Nexus was accounted for using the cost method. As a
result, the Company's results of operations in 1998 do not include any equity
earnings (losses) pertaining to Aptel or Nexus.
GAIN ON SALE OF MARKETABLE EQUITY SECURITY. In April 1998, the Company sold
all of its Nexus shares in a private transaction and realized a pre-tax one
time gain on marketable equity securities of approximately $1.1 million,
which is included under "Other income (expense)" in the Company's condensed
consolidated statements of income for the nine months ended September 30,
1998. See also Note G - Other Investments.
PROVISION FOR INCOME TAXES. In 1998 and 1997, the Company benefited for
federal and state tax purposes from foreign tax holiday and tax exempt income
in Israel.
LIQUIDITY AND CAPITAL RESOURCES
OPERATING ACTIVITIES. During the nine months ended September 30, 1998, the
Company generated $9.8 million of cash and cash equivalents from its
operating activities as compared to $15.8 million during the nine months
ended September 30, 1997. This decrease, even though the Company experienced
an increase in net income during the nine months ended September 30, 1998,
was attributable primarily to the non-cash effects of recognizing deferred
revenue, gain on sale of marketable equity securities, and the cash provided
by the increase in accounts receivable, which was offset by the decrease in
inventories and in accounts payables in the first three quarters of 1998.
INVESTING ACTIVITIES. The Company invests excess cash in marketable
securities of varying maturity, depending on its projected cash needs for
operations, capital expenditures and other business purposes. In the first
nine months of 1998, the Company purchased $45.2 million and
13
<PAGE>
sold $47.6 million of investments classified as marketable securities.
Capital equipment additions in the first nine months of 1998 totaled $1.8
million, primarily for computer equipment, product testing equipment and
software.
FINANCING ACTIVITIES. During the three and nine months ended September 30,
1998, the Company received $342,000 and $1,042,000, respectively upon the
exercise of employee stock options and through purchases pursuant to the
employee stock purchase plan. In the first three quarters of fiscal 1998, the
Company repurchased 764,000 shares of its Common Stock at an average purchase
price of $17.84 per share, for an aggregate purchase price of approximately
$13.6 million. In the three months ended September 30, 1998, the Company
repurchased 385,000 shares at an average purchase price of $14.48 per share.
At September 30, 1998, the Company's principal source of liquidity consisted of
cash and cash equivalents totaling $6.4 million and marketable securities with
an aggregate value of $56.2 million. The Company's working capital at September
30, 1998 was $64.9 million.
The Company believes that its current cash, cash equivalent and marketable
securities will be sufficient to meet its cash requirements through at least the
next twelve months. In January 1998, the Company announced a stock repurchase
program pursuant to which up to 1,000,000 shares of its Common Stock may be
acquired in the open market or in privately negotiated transactions.
Accordingly, the Company will use part of its available cash for this purpose.
As part of its business strategy, the Company occasionally evaluates potential
acquisitions of businesses, products and technologies. Accordingly, a portion of
its available cash may be used for the acquisition of complementary products or
businesses. Such potential transactions may require substantial capital
resources, which may require the Company to seek additional debt or equity
financing. There can be no assurance that the Company will consummate any such
transactions. See "Factors Affecting Future Operating Results -- Acquisition
Strategy."
14
<PAGE>
FACTORS AFFECTING FUTURE OPERATING RESULTS
THIS FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS CONCERNING THE COMPANY'S
FUTURE PRODUCTS, EXPENSES, REVENUE, LIQUIDITY AND CASH NEEDS AS WELL AS THE
COMPANY'S PLANS AND STRATEGIES. THESE FORWARD-LOOKING STATEMENTS ARE BASED
ON CURRENT EXPECTATIONS AND THE COMPANY ASSUMES NO OBLIGATION TO UPDATE THIS
INFORMATION. NUMEROUS FACTORS COULD CAUSE ACTUAL RESULTS TO DIFFER
SIGNIFICANTLY FROM THE RESULTS DESCRIBED IN THESE FORWARD-LOOKING STATEMENTS,
INCLUDING THE FOLLOWING RISK FACTORS.
POTENTIAL FLUCTUATIONS IN QUARTERLY OPERATING RESULTS. The Company's revenues
are derived predominantly from product sales and accordingly vary
significantly depending on the volume and timing of product orders. In
addition, the Company's quarterly operating results depend on the timing of
the recognition of license fees and the level of per unit royalties. Through
1998, the Company expects that revenues from its DSP core designs and
TrueSpeech will be derived primarily from license fees rather than by per
unit royalties. The uncertain timing of such license fees has caused, and
may continue to cause, quarterly fluctuations in the Company's operating
results. The Company's per unit royalties from licensees are completely
dependent upon the success of its original equipment manufacturer ("OEM")
licensees in introducing products utilizing the Company's technology and the
success of those OEM products in the marketplace
The Company's quarterly operating results may also fluctuate significantly as
demand for TADs varies during the year due to seasonal customer buying patterns,
and as a result of other factors, such as the mix of products sold; fluctuations
in the level of sales by OEMs and other vendors of products incorporating the
Company's products; the timing of new product introductions by the Company or
its customers, licensees or competitors; changes in general economic conditions,
including the changing economics conditions in Southeast Asia and other factors,
including those documented elsewhere in this quarterly report.
RECENT DEVELOPMENTS - REVENUES FROM ASIA. In 1997, the Company generated
approximately 39% of its total product sales, from sales to customers located
in South Korea, Taiwan, Singapore and Hong Kong. In the first nine months of
1998, due to negative economic developments in some of these countries, most
notably South Korea, product sales significantly decreased. In the first
three quarters of 1998, the Company has experienced a decline in the flow of
orders from Southeast Asia, primarily South Korea and Singapore, mainly due
to the general economic uncertainty in that region, which was primarily
offset by increased orders from Japan, resulting in a decrease in the
Company's backlog. If this trend in the Asian economic market continues, it
may result in a further decrease of the Company's backlog at the end of 1998.
There can be no assurance that continued negative developments in Asia will
not have a material adverse effect on the Company's future operating
performance.
PRICE COMPETITION. The Company has experienced and is experiencing a
continued decrease in the average selling prices of its TAD speech
processors. During 1997 and 1998, the Company was able to offset this
decrease on an annual basis through manufacturing cost reductions. However,
any inability of the Company to respond to increased price competition for
these
15
<PAGE>
and other products through the continuing and frequent introduction of new
products or continued reductions of manufacturing costs would have a material
adverse effect on the Company's business, financial condition and results of
operations. The markets for the Company's products are extremely competitive
and the Company expects that competition will increase. The Company's
existing and potential competitors in each of its markets include large and
emerging domestic and foreign companies, many of which have significantly
greater financial, technical, manufacturing, marketing, selling and
distribution resources and management expertise than the Company. Sales of
TAD products comprise a substantial part of the Company's product sales. Any
adverse change in the digital TAD market or the Company's ability to compete
and maintain its position in that market would have a material adverse effect
on the Company's business, financial condition and results of operations.
RELIANCE ON INTERNATIONAL OPERATIONS; RISK OF OPERATIONS IN ISRAEL. The
Company is subject to the risks of doing business internationally, including
unexpected changes in regulatory requirements; fluctuations in the exchange
rate for the United States dollar; imposition of tariffs and other barriers
and restrictions; and the burdens of complying with a variety of foreign
laws. The Company is also subject to general geopolitical risks, such as
political and economic instability and changes in diplomatic and trade
relationships, in connection with its international operations. In
particular, the Company's principal research and development facilities are
located in the State of Israel and, as a result, on September 30, 1998, 87 of
the Company's 114 employees were located in Israel, including 100% of the
Company's research and development personnel. In addition, although the
Company is incorporated in Delaware, a majority of the Company's directors
and executive officers are non-residents of the United States. Therefore,
the Company is directly affected by the political, economic and military
conditions to which Israel is subject. In addition, many of the Company's
expenses in Israel are paid in Israeli currency, thereby also subjecting the
Company to the risks of foreign currency fluctuations and to economic
pressures resulting from Israel's generally high rate of inflation. While
substantially all of the Company's sales and expenses are denominated in
United States dollars, a portion of the Company's expenses are denominated in
Israeli shekels. The Company's primary expenses paid in Israeli currency are
employee salaries and lease payments on the Israeli facilities. As a result,
an increase in the value of Israeli currency in comparison to the United
States dollar could increase the cost of technology development, research and
development expenses and general and administrative expenses. The rate of
inflation in Israel for the first nine months of 1998 and 1997, respectively,
was 4.0% and 6.4%. There can be no assurance that currency fluctuations,
changes in the rate of inflation in Israel or any of the other aforementioned
factors will not have a material adverse effect on the Company's business,
financial condition and results of operations.
ACQUISITION STRATEGY. The Company has pursued, and will continue to pursue,
growth opportunities through internal development and acquisition of
complementary businesses, products and technologies. The Company is unable
to predict whether or when any prospective acquisition will be completed. The
process of integrating an acquired business may be prolonged due to
unforeseen difficulties and may require a disproportionate amount of
resources and management's attention. There can be no assurance that the
Company will be able to successfully identify suitable acquisition
candidates, complete acquisitions, integrate acquired businesses into its
operations, or expand into new markets. Once integrated, acquisitions may not
achieve comparable levels of revenues, profitability or productivity as
16
<PAGE>
the existing business of the Company or otherwise perform as expected. The
occurrence of any of these events could have a material adverse effect on the
Company's business, financial condition or results of operations. Future
acquisitions may require substantial capital resources, which may require the
Company to seek additional debt or equity financing.
DEPENDENCE ON INDEPENDENT FOUNDRIES. All of the Company's integrated circuit
products are manufactured by independent foundries. While these foundries
have been able to adequately meet the demands of the Company's increasing
business, the Company is and will continue to be dependent upon these
foundries to achieve acceptable manufacturing yields, quality levels and
costs, and to allocate to the Company a sufficient portion of foundry
capacity to meet the Company's needs in a timely manner. The Company believes
that it now has sufficient foundry capacity through 1998. Revenues could be
materially and adversely affected, however, should any of these foundries
fail to meet the Company's request for products due to a shortage of
production capacity, process difficulties or low yield rates.
RELIANCE ON OEMS TO OBTAIN REQUIRED COMPLEMENTARY COMPONENTS. Certain of the
raw materials, components and subassemblies included in the products
manufactured by the Company's OEM customers, which also incorporate the
Company's products, are obtained from a limited group of suppliers. Supply
disruptions, shortages or termination of certain of these sources could have
an adverse effect on the Company's business and results of operations due to
the delay or discontinuance of orders for the Company's products by customers
until such components are available.
INTELLECTUAL PROPERTY. As is typical in the semiconductor industry, the
Company has been and may from time to time be notified of claims that it may
be infringing patents or intellectual property rights owned by third parties.
For example, AT&T has asserted that G.723.1, which is primarily composed of
a TrueSpeech algorithm, includes certain elements covered by patents held by
AT&T and has requested that video conferencing manufacturers license such
technology from AT&T. Other organizations including Lucent Microelectronics,
NTT and VoiceCraft recently have raised public claims that they also have
patents related to the G.723.1 technology. If it appears necessary or
desirable, the Company may seek licenses under such patents or intellectual
property rights that it is allegedly infringing. Although holders of such
intellectual property rights commonly offer such licenses, no assurances can
be given that licenses will be offered or that terms of any offered licenses
will be acceptable to the Company. The failure to obtain a license for key
intellectual property rights from a third party for technology used by the
Company could cause the Company to incur substantial liabilities and to
suspend the manufacture of products utilizing the technology. The Company
believes that the ultimate resolution of these matters will not have a
material adverse effect on the Company's financial position, results of
operations, or cash flows.
YEAR 2000 COMPLIANCE. The Company is aware of the issues associated with the
programming code in existing computer systems as the Year 2000 approaches.
The "Year 2000" problem is concerned with whether computer systems will
properly recognize date sensitive information when the year changes to 2000.
Systems that do not properly recognize such information could generate
erroneous data or cause a system to fail. The Year 2000 problem is pervasive
17
<PAGE>
and complex as the computer operation of virtually every company will be
affected in some way.
During 1997 and going forward in 1998, the Company is utilizing
both internal and external resources to identify, correct or reprogram, and
test the Company's systems for Year 2000 readiness. The Company anticipates
that all reprogramming efforts will be completed by December 31, 1998 to
allow the Company adequate time for testing. The Company's efforts include
the evaluation of both information technology ("IT") and non-IT systems.
Non-IT systems include systems or hardware containing embedded technology
such as microcontrollers. To date the costs incurred by the Company with
respect to this project are not material nor does the Company believe that
future costs for the completion of this project will be material. However,
if systems material to the Company's operations have not been made Year 2000
ready by the completion of the project, the Year 2000 issue could have a
material adverse effect on the Company's financial statements. The Company
has not yet developed a contingency plan to operate in the event that any
noncompliant critical systems are not remedied by January 1, 2000, but the
Company intends to develop such a plan in the near future.
The Company currently is taking steps to ensure that its products
and services will continue to operate on and after January 1, 2000. The
Company believes that its products being shipped today are Year 2000 ready.
In addition, to date, confirmations have been received from the Company's
primary processing vendors that plans are being developed to address the
processing of transactions in the Year 2000. The Company also has been
communicating with suppliers and other third parties that it does business
with to coordinate Year 2000 readiness. The responses received by the
Company to date indicate that such third parties are taking steps to address
this concern.
Based upon the steps being taken to address this issue and the
progress to date, the Company's management believes that Year 2000 readiness
expenses will not have a material adverse effect on the Company's earnings.
However, there can be no assurance that Year 2000 problems will not occur
with respect to the Company's computer systems. Furthermore, the Year 2000
problem may impact other entities with which the Company transacts business,
and the Company cannot predict the effect of the Year 2000 problem on such
entities or the resulting effect on the Company. As a result, if
preventative and/or corrective actions by the Company or those which the
Company does business with are not made in a timely manner, the Year 2000
issue could result in a failure of some of the Company's manufacturing
operations, which would have a material adverse effect on the Company's
business, financial condition and results of operations.
EURO CONVERSION. Beginning in January 1999, a new currency called the "euro"
is scheduled to be introduced in certain Economic and Monetary Union ("EMU")
countries. During 2002, all EMU countries are expected to be operating with
the euro as their single currency. Uncertainty exists as to the effect the
euro currency will have on the marketplace. Additionally, all of the final
rules and regulations have not yet been defined and finalized by the European
Commission with regard to the euro currency. The Company is assessing the
effect the euro formation will have on its internal systems and the sale of
its products. The Company expects to take appropriate actions based on the
results of such assessment. The Company has not yet determined the cost
related to addressing this issue and there can be no
18
<PAGE>
assurance that this issue and its related costs will not have a material
adverse effect on the Company's business, financial condition and results of
operations.
ONGOING LITIGATION. In November 1995, after the Company's stock price
declined, several lawsuits were filed in the United States District Court for
the Northern District of California accusing the Company, its former Chief
Executive Officer, and its former Chief Financial Officer of issuing
materially false and misleading statements in violation of the federal
securities laws. These lawsuits were consolidated into a single amended
complaint in February 1996. In the amended complaint, plaintiffs sought
unspecified damages on behalf of all persons who purchased shares of the
Company's Common Stock during the period June 6, 1995 through November 10,
1995. On June 11, 1996, the Court granted the Company's motion to dismiss
the lawsuit, with leave to amend. The plaintiffs filed an amended complaint
on July 11, 1996. On March 7, 1997, the Court issued an order dismissing
with prejudice all claims based on statements issued by the Company. The
Court allowed plaintiffs to proceed with their claims regarding statements
the Company allegedly made to securities analysts. The Court also permitted
plaintiffs to amend their complaint as to their claim that the Company is
responsible for the statements contained in analysts' reports, but the
plaintiffs chose not to amend their complaint. On November 5, 1997, the
parties reached an agreement in principle to settle the litigation. The Court
approved the settlement on September 14, 1998. There were no objections, and
only one shareholder (who purports to have purchased shares during the class
period) opted out. The proposed settlement requires that the Company fund
approximately $50,000 of the settlement amount to fulfill the retention
amounts under the Company's insurance policy. The Company continues to deny
all allegations in the law suit.
POSSIBLE VOLATILITY OF STOCK PRICE. The variety and uncertainty of the
factors affecting the Company's operating results, and the fact that the
Company participates in a highly dynamic industry, may result in significant
volatility in the Company's Common Stock price.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
19
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In November 1995, after the Company's stock price declined, several lawsuits
were filed in the United States District Court for the Northern District of
California accusing the Company, its former Chief Executive Officer, and its
former Chief Financial Officer of issuing materially false and misleading
statements in violation of the federal securities laws. These lawsuits were
consolidated into a single amended complaint in February 1996. In the
amended complaint, plaintiffs sought unspecified damages on behalf of all
persons who purchased shares of the Company's Common Stock during the period
June 6, 1995 through November 10, 1995. On June 11, 1996, the Court granted
the Company's motion to dismiss the lawsuit, with leave to amend. The
plaintiffs filed an amended complaint on July 11, 1996. On March 7, 1997,
the Court issued an order dismissing with prejudice all claims based on
statements issued by the Company. The Court permitted plaintiffs to proceed
with their claims regarding statements the Company allegedly made to
securities analysts. The Court also permitted plaintiffs to amend their
complaint as to their claim that the Company is responsible for the
statements contained in analysts' reports, but the plaintiffs chose not to
amend this complaint. On November 5, 1997, the parties reached an agreement
in principle to settle the litigation. The Court approved the settlement on
September 4, 1998. There were no objections, and only one shareholder (who
purports to have purchased shares during the class period) opted out. The
settlement is being funded by insurance proceeds except for $50,000 funded by
the Company in order to fulfill the retention amounts under the Company's
insurance policy. The Company continues to deny all allegations in the law
suit.
On February 12, 1997, BEKA Electronic GmbH ("BEKA") commenced an action in the
United States District Court for the Northern District of California against the
Company. The action alleges breach of contract, breach of implied covenant of
good faith and fair dealing and requests an accounting by the Company in
connection with the Company's termination of the Sales Representative Agreement
between BEKA and the Company. The complaint seeks an unspecified amount of
damages. The parties completed nonbinding mediation in May 1998, but were unable
to settle the case. Discovery in the case is ongoing. Trial has been set for May
11, 1999. The Company believes the lawsuit to be without merit and intends to
defend itself vigorously.
20
<PAGE>
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule
(b) Reports on Form 8-K
The Company filed a report on Form 8-K/A, Amendment No. 1,
on August 27, 1998, relating to the change in accountants
of DSP Semiconductors Ltd., a wholly owned subsidiary
of the Company.
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.
DSP GROUP, INC.
(Registrant)
By /s/ AVI BASHER
-------------------------------------------------------------
Avi Basher, Vice President of Finance, Chief Financial Officer
and Secretary (Principal Financial Officer and Principal
Accounting Officer)
Date: Nov. 16, 1998
21
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS IN THE QUARTERLY REPORT ON FORM 10-Q OF DSP GROUP, INC. FOR
THE QUARTER ENDED SEPTEMBER 30, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 6,355
<SECURITIES> 56,234
<RECEIVABLES> 9,002
<ALLOWANCES> 592
<INVENTORY> 2,226
<CURRENT-ASSETS> 77,953
<PP&E> 10,811
<DEPRECIATION> 6,696
<TOTAL-ASSETS> 84,584
<CURRENT-LIABILITIES> 13,102
<BONDS> 0
0
0
<COMMON> 9
<OTHER-SE> 71,473
<TOTAL-LIABILITY-AND-EQUITY> 84,584
<SALES> 39,950
<TOTAL-REVENUES> 49,733
<CGS> 23,698
<TOTAL-COSTS> 24,053
<OTHER-EXPENSES> 7,334
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 132
<INCOME-PRETAX> 14,598
<INCOME-TAX> 3,651
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 10,947
<EPS-PRIMARY> 1.11
<EPS-DILUTED> 1.08
</TABLE>
