<PAGE> 1
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 QUARTERLY PERIOD ENDED SEPTEMBER 28, 1997
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 NO. 0-23298
QLOGIC CORPORATION
(Exact name of registrant as specified in its charter)
<TABLE>
<CAPTION>
<S> <C>
DELAWARE 33-0537669
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer
Identification No.)
</TABLE>
3545 HARBOR BOULEVARD
COSTA MESA, CALIFORNIA 92626
(Address of principal executive offices) (Zip Code)
(714) 438-2200
(Registrant's telephone number, including area code)
-----------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
As of October 26, 1997, the registrant had 8,583,421 shares of common stock
outstanding.
<PAGE> 2
QLOGIC CORPORATION
INDEX
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION PAGE
<S> <C>
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
September 28, 1997 and March 30, 1997 ............................................. 3
Condensed Consolidated Statements of Income
three months and six months ended September 28, 1997
and September 29, 1996 ............................................................ 4
Condensed Consolidated Statements of Cash Flows
six months ended September 28, 1997
and September 29, 1996 ............................................................ 5
Notes to Condensed Consolidated Financial Statements .............................. 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations .............................. 7
</TABLE>
<TABLE>
<CAPTION>
PART II. OTHER INFORMATION PAGE
<S> <C>
Item 6. Exhibits and Reports on Form 8-K ........................................ 15
</TABLE>
2
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
QLOGIC CORPORATION AND SUBSIDIARY
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
(unaudited)
ASSETS
<TABLE>
<CAPTION>
SEPTEMBER 28, MARCH 30,
1997 1997
-------- --------
<S> <C> <C>
Cash and cash equivalents $ 70,010 $ 19,091
Short term investments $ 34,416 --
Accounts and notes receivable, net 5,560 5,720
Inventories 4,616 4,794
Deferred income taxes 2,188 1,149
Prepaid expenses and other current assets 593 391
-------- --------
Total current assets 117,383 31,145
Property and equipment, net 5,318 5,043
Other assets 1,108 775
-------- --------
$123,809 $ 36,963
======== ========
</TABLE>
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
SEPTEMBER 28, MARCH 30,
1997 1997
-------- --------
<S> <C> <C>
Accounts payable $ 4,138 $ 3,994
Accrued expenses 10,465 7,115
Current installments of capitalized lease obligations 213 225
-------- --------
Total current liabilities 14,816 11,334
Capitalized lease obligations, excluding current installments 248 352
Other non-current liabilities 924 924
Stockholders' equity:
Preferred stock, $.10 par value; 1,000,000 shares authorized (200,000 -- --
shares designated as Series A Junior Participating Preferred, $.001 par value):
none issued and outstanding
Common stock $.10 par value; 12,500,000 shares authorized; 8,574,616
and 5,840,701 shares issued and outstanding at September 28, 1997 857 584
and March 30, 1997, respectively
Additional paid-in capital 96,911 19,001
Retained earnings 10,053 4,768
-------- --------
Total stockholders' equity 107,821 24,353
-------- --------
$123,809 $ 36,963
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
<PAGE> 4
QLOGIC CORPORATION AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
(unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
------------------------------ ------------------------------
September 28, September 29, September 28, September 29,
------------- ------------- ------------- -------------
1997 1996 1997 1996
------- ------- ------- -------
<S> <C> <C> <C> <C>
Net revenues $19,625 $16,725 $37,797 $32,465
Cost of sales 8,450 9,622 16,290 19,207
------- ------- ------- -------
Gross profit 11,175 7,103 21,507 13,258
Operating expenses:
Engineering and development 3,655 2,536 7,183 4,625
Selling and marketing 2,176 1,466 4,258 2,823
General and administrative 1,119 1,229 2,474 2,346
------- ------- ------- -------
Total operating expenses 6,950 5,231 13,915 9,794
------- ------- ------- -------
Operating income 4,225 1,872 7,592 3,464
Interest income, net 720 92 1,002 151
------- ------- ------- -------
Income before income taxes 4,945 1,964 8,594 3,615
Income tax provision 1,904 786 3,309 1,470
------- ------- ------- -------
Net income $ 3,041 $ 1,178 $ 5,285 $ 2,145
======= ======= ======= =======
Net income per common and
equivalent share $ 0.39 $ 0.20 $ 0.75 $ 0.36
======= ======= ======= =======
Weighted average common and
common equivalent shares 7,825 6,028 7,077 6,029
======= ======= ======= =======
</TABLE>
See accompanying notes to condensed consolidated financial statements.
4
<PAGE> 5
QLOGIC CORPORATION AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
--------------------------------
September 28, September 29,
1997 1996
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 5,285 $ 2,145
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization 1,215 1,266
Provision for doubtful accounts 161 128
Loss on disposal of property and equipment 156 1,235
Provision for (benefit from) deferred income taxes (1,039) (146)
Changes in assets and liabilities:
Accounts and notes receivables (1) (1,416)
Inventories 178 451
Prepaid expenses and other current assets (202) (81)
Other assets (333) (630)
Accounts payable 144 (1,650)
Accrued expenses 3,350 1,877
Other non-current liabilities -- (1,092)
-------- --------
Net cash provided by operating activities 8,914 2,091
-------- --------
Cash flows from investing activities:
Additions to property and equipment (1,646) (1,508)
Purchases of short term investments (34,416) --
-------- --------
Net cash used in investing activities (36,062) (1,508)
-------- --------
Cash flows from financing activities:
Principal payments under capital leases (116) (150)
Proceeds from exercise of stock options 76 747
Proceeds from sale of common stock 78,107 --
-------- --------
Net cash provided by financing activities 78,067 597
-------- --------
Net change in cash 50,919 1,180
-------- --------
Cash at beginning of period 19,091 8,414
-------- --------
Cash at end of period $ 70,010 $ 9,594
======== ========
Cash paid during the period for:
Interest $ 42 $ 87
======== ========
Income taxes $ 2,775 $ 1,331
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
5
<PAGE> 6
QLOGIC CORPORATION AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share data)
NOTE (1) BASIS OF PRESENTATION
In the opinion of the Company, the accompanying unaudited condensed
consolidated financial statements contain all adjustments (which are normal
recurring accruals) necessary to present fairly the financial position as of
September 28, 1997 and March 30, 1997, the results of operations for the three
months and six months ended September 28, 1997 and September 29, 1996 and the
statements of cash flows for the six months ended September 28, 1997 and
September 29, 1996.
NOTE (2) INVENTORIES
Components of inventories are as follows:
<TABLE>
<CAPTION>
SEPTEMBER 28, MARCH 30,
1997 1997
---- ----
<S> <C> <C>
Raw materials $2,556 $2,931
Work in progress 127 1,117
Finished goods 1,933 746
------ ------
$4,616 $4,794
====== ======
</TABLE>
NOTE (3) NET INCOME PER SHARE
Net income per common and equivalent share was computed based on the
weighted average number of common and equivalent shares outstanding (if
dilutive) during the periods presented (7,825 and 6,028 for the three months
ended September 28, 1997 and September 29, 1996, respectively; and 7,077 and
6,029 for the six months ended September 28, 1997 and September 29, 1996,
respectively). The Company has granted certain stock options which have been
treated as common share equivalents in computing both primary and fully diluted
income per share. The primary and fully diluted income per share calculations
are approximately the same.
NOTE (4) SHORT TERM INVESTMENTS
Short term investments are comprised primarily of bonds and commercial
paper.
6
<PAGE> 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis contains forward-looking
statements that involve risk and uncertainties. The Company's actual results
could differ materially from those discussed herein. Factors that could cause or
contribute to such differences include, but are not limited to, those discussed
hereunder, in "Risk Factors."
The Company is the successor to the Emulex Micro Devices division of
Emulex Corporation ("Emulex"). On February 24, 1994, Emulex declared a special
dividend consisting of the distribution to its stockholders of all outstanding
shares of common stock of QLogic, pursuant to which the Company became a
separate publicly held corporation.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain
income and expense items expressed in absolute terms and as a percentage of the
Company's net revenues.
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
------------------ ----------------
(000'S) (000'S)
SEPTEMBER 28, 1997 SEPTEMBER 29, 1996 SEPTEMBER 28, 1997 SEPTEMBER 29, 1996
------------------ ------------------ ------------------ ------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues .......................... $19,625 100.0% $16,725 100.0% $37,797 100.0% $32,465 100.0%
Cost of sales ......................... 8,450 43.1 9,622 57.5 16,290 43.1 19,207 59.2
------- ----- ------- ----- ------- ----- ------- -----
Gross profit .................. 11,175 56.9 7,103 42.5 21,507 56.9 13,258 40.8
Operating expenses:
Engineering and development ... 3,655 18.6 2,536 15.2 7,183 19.0 4,625 14.2
Selling and marketing ......... 2,176 11.1 1,466 8.8 4,258 11.3 2,823 8.7
General and administrative .... 1,119 5.7 1,229 7.3 2,474 6.5 2,346 7.2
------- ----- ------- ----- ------- ----- ------- -----
Total operating expenses ...... 6,950 35.4 5,231 31.3 13,915 36.8 9,794 30.1
------- ----- ------- ----- ------- ----- ------- -----
Operating income .............. $ 4,225 21.5% $ 1,872 11.2% $ 7,592 20.1% $ 3,464 10.7%
======= ===== ======= ===== ======= ===== ======= =====
</TABLE>
NET REVENUES
The Company's net revenues are derived primarily from the sale of
SCSI-based I/O (Input/Output) products. License fees also contribute to the
Company's net revenues. Net revenues for the three months ended September 28,
1997 increased $2.9 million or 17% from the three months ended September 29,
1996 to $19.6 million. The increase was primarily the result of an increase in
sales of the FAS, Host Board, and ISP product lines of $2.8 million, $1.5
million and $1.3 million, respectively. A partially offsetting decline in sales
of $2.2 million and $0.5 million occurred in the TEC product line and license
fees.
Net revenue for the six months ended September 28, 1997 increased $5.3
million or 16% from the six months ended September 29, 1996. The increase was
primarily the result of an increase in sales of the Host Board and ISP product
lines of $5.4 million and $3.0 million respectively. A partially offsetting
decline in sales of $3.2 million occurred in the TEC product line.
COST OF SALES
Cost of sales consists primarily of raw materials (including wafers and
completed chips from third-party manufacturers), assembly and test labor,
overhead and warranty costs. The cost of sales percentage for the three months
ended September 28, 1997 was 43%, a decrease of 14% from the similar period in
the prior fiscal year. The percentage decrease was due to products containing
higher levels of integration and functionality that are generally associated
with higher average selling prices and gross margins accounting for a greater
percentage of net revenues. Additionally, the Company experienced manufacturing
efficiencies. The Company's ability to maintain its current gross margin can be
significantly affected by factors such as supply costs and, in particular, the
cost of silicon wafers, the mix of products shipped, competitive price
pressures, the timeliness of volume shipments of new products and the Company's
ability to achieve manufacturing cost reductions. The Company anticipates that
it will be increasingly difficult to reduce manufacturing costs. In addition,
the Company believes the cost of sales percentage will be adversely impacted by
sales of IDE-based products, which carry lower margins. As a result, the Company
does not anticipate cost of sales to decrease at a rate consistent with historic
trends or at all.
7
<PAGE> 8
The cost of sales percentage for the six months ended September 28, 1997
was 43%, a decrease of 16% from the similar period in the prior fiscal year. The
percentage decrease was due to products containing higher levels of integration
and functionality that are generally associated with higher average selling
prices and gross margins accounting for a greater percentage of net revenues.
Additionally, the Company experienced manufacturing efficiencies. The Company's
ability to maintain its current gross margin can be significantly affected by
factors such as supply costs and, in particular, the cost of silicon wafers, the
mix of products shipped, competitive price pressures, the timeliness of volume
shipments of new products and the Company's ability to achieve manufacturing
cost reductions. The Company anticipates that it will be increasingly more
difficult to reduce manufacturing costs. In addition, the Company believes the
cost of sales percentage will be adversely impacted by sales of IDE-based
products, which carry lower margins. As a result, the Company does not
anticipate cost of sales to decrease at a rate consistent with historic trends
or at all.
OPERATING EXPENSES
Engineering and Development. Engineering and development expenses
consist primarily of salaries and other personnel related expenses, development
related equipment, occupancy costs and depreciation. For the three months ended
September 28, 1997, engineering and development expenditures increased by $1.1
million from the same period in fiscal 1996, primarily due to increased salary
and new product development expenses. In particular, the Company significantly
expanded its engineering staff in the three months ended September 28, 1997,
from the similar period in the prior fiscal year. The Company expects that
engineering and development expenses will increase in absolute dollars in fiscal
1998.
For the six months ended September 28, 1997, engineering and development
expenditures increased by $2.6 million from the same period in fiscal 1996,
primarily due to increased salary and new product development expenses.
Selling and Marketing. Selling and marketing expenses consist primarily
of sales commissions, salaries and other expenses for selling and marketing
personnel, travel expenses and trade shows. During the three months ended
September 28, 1997, selling and marketing expenses increased by $0.7 million
from the similar period in the prior fiscal year, primarily as a result of
commission and salary expenses.
During the six months ended September 28, 1997, selling and marketing
expenses increased by $1.4 million from the similar period in the prior fiscal
year, primarily as a result of increased sales commission and salary expense for
sales and marketing personnel.
General and Administrative. General and administrative expenses consist
primarily of salaries and other expenses for corporate management, finance,
accounting and human resources. For the three months ended September 28, 1997,
general and administrative expenses decreased $0.1 million from the similiar
period in the prior year period, primarily due to reduced bad debt expense.
For the six months ended September 28, 1997, general and
administrative expenses increased by $0.1 million from the prior year period,
primarily due to increases in salary expense and legal expense, partially offset
by reductions in consulting and other expenses.
INTEREST INCOME
Interest income, net, increased $0.6 million during the three months
ended September 28, 1997 from the three months ended September 29, 1996,
primarily due to larger balances of cash, cash equivalents and short term
investments.
Interest income, net, increased $0.9 million during the six months ended
September 28, 1997 from the six months ended September 29, 1996, primarily due
to larger balances of cash, cash equivalents and short term investments.
INCOME TAX PROVISION
The Company's effective tax rates were 39% and 40% for the three months
ended September 28, 1997 and September 29, 1996. The Company's effective tax
rates were 39% and 41% for the six months ended September 28, 1997 and September
29, 1996.
8
<PAGE> 9
NEW ACCOUNTING STANDARDS
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. ("Statement") 128, "Earnings Per
Share", Statement 128 specifies new standards designed to improve the earnings
per share ("EPS") information provided in financial statements by simplifying
the existing computational guidelines, revising the disclosure requirements and
increasing the comparability of EPS data on an international basis. Some of the
changes made to simplify the EPS computations include: (a) eliminating the
presentation of primary EPS and replacing it with basic EPS, with the principle
difference being that the common stock equivalents are not considered in
computing basic EPS, (b) eliminating the modified treasury stock method and the
three percent materiality provision, and (c) revising the contingent share
provisions and the supplemental EPS data requirements. Statement 128 also makes
a number of changes to existing disclosure requirements. Statement 128 is
effective for financial statements issued for periods ending after December 15,
1997, including interim periods. Management believes the adoption of Statement
128 will not have a material impact on the Company's financial position or
result of operations.
In June 1997, the FASB issued Statement 130, "Reporting Comprehensive
Income". The new statement is effective for both interim and annual periods
beginning after December 15, 1997. The Company has not yet determined the impact
of adopting this new standard on the consolidated financial statements.
In June 1997, the FASB issued Statement 131, "Disclosure about Segments
of an Enterprise and Related Information". The new statement is effective for
fiscal years beginning after December 15, 1997. The Company has not yet
determined the impact of adopting this new standard on the consolidated
financial statements.
LIQUIDITY AND CAPITAL RESOURCES
QLogic has financed its recent working capital needs and capital
expenditure requirements primarily from internally generated funds and
facilities and equipment leases. Cash provided by operations was approximately
$8.9 million for the six months ended September 28, 1997. Cash provided by
operations was approximately $2.1 million for the six months ended September 29,
1996. The growth in cash provided by operations is primarily attributable to
improved profitability and increased accrued expenses.
Cash used in investing activities was approximately $36.1 million for
the six months ended September 28, 1997, primarily reflecting the purchase of
short term investments using a portion of the proceeds received in August 1997
from the stock offering, and $1.6 million for purchase of property and
equipment.
Cash used in investing activities was approximately $1.5 million for the
six months ended September 29, 1996, reflecting expenditures for property and
equipment.
Cash provided by financing activities was approximately $78.1 for the
six months ended September 28, 1997, which primarily reflected net proceeds from
the sale of common stock.
Cash provided by financing activities was approximately $0.6 million
for the six months ended September 29, 1996, which reflected proceeds from the
exercise of stock options, offset in part by principal payments under capital
leases.
Working capital at September 28, 1997 was $102.6 million, as compared to
$19.8 million at March 30, 1997. At September 28, 1997, the Company's principal
sources of liquidity included cash and cash equivalents of $70.0 million. In
addition, the Company has a line of credit of up to $7.5 million with Silicon
Valley Bank. The line of credit allows the Company to borrow at the bank's prime
rate. There were no borrowings under the line of credit as of September 28,
1997. The line of credit with Silicon Valley Bank will expire July 5, 1998, and,
although there can be no assurances, the Company currently expects to renew this
line of credit.
The Company believes that existing cash balances, facilities and
equipment leases, cash flows from operating activities, short-term investments
and the available line of credit will provide the Company with sufficient funds
to finance its operations for at least the next 12 months.
Prior to the Distribution, QLogic and Emulex entered into a Tax Sharing
Agreement (the "Tax Sharing Agreement") for purposes of allocating
pre-Distribution tax liabilities between QLogic and Emulex and to implement the
Distribution as a tax free distribution. The total amount due Emulex pursuant to
the Tax Sharing Agreement at September 28, 1997 was $0.5 million, which was
included in other noncurrent liabilities. Amounts due Emulex under the Tax
Sharing Agreement are payable on December 30, 1999, and commenced bearing
interest on January 1, 1996, at the rate applicable to underpayments of Federal
income taxes, which was 9% at September 28, 1997. Interest due Emulex is payable
quarterly and the Company commenced interest payments in April 1996.
In accordance with the terms of the Tax Sharing Agreement, QLogic is
required to accelerate payment to Emulex upon the occurrence of specific events,
for the actual tax benefit received from the Company's utilization of
pre-Distribution tax attributes.
9
<PAGE> 10
The occurrence of such events, which includes commencement of public offerings,
requires the Company to pay Emulex no later than 90 days subsequent to the
commencement of such an event. Consequently, due to the commencement of the
Company's public offering on August 7, 1997, QLogic paid Emulex $0.3 million on
October 31, 1997; the payment representing the actual unpaid tax benefits
realized to date, on filed tax returns, by the Company from utilization of
pre-Distribution tax attributes, plus accrued interest.
RISK FACTORS
Except for the historical information contained herein, the discussion
in this Form 10-Q constitute forward-looking statements. When used in this Form
10-Q the words "shall," "should," "forecast," "all of," "projected," "believes,"
"expects," and similar expressions are intended to identify forward looking
statements. In addition, the Company may from time to time make oral
forward-looking statements. The Company wishes to caution readers that a number
of important factors could cause results to differ materially from those in the
forward-looking statements. Factors that could cause or contribute to such
differences include those discussed below, as well as those discussed above or
elsewhere in this Form 10-Q.
FLUCTUATIONS IN QUARTERLY OPERATING RESULTS
The Company has experienced, and expects to continue to experience,
fluctuations in sales and operating results from quarter to quarter. As a
result, the Company believes that period to period comparisons of its operating
results are not necessarily meaningful, and that such comparisons cannot be
relied upon as indicators of future performance. In addition, there can be no
assurance that the Company will maintain its current profitability in the
future. A significant portion of the Company's net revenues in each fiscal
quarter results from orders booked in that quarter. In the past, a significant
percentage of the Company's quarterly bookings and sales to major customers
occurred during the last month of the quarter, and there can be no assurance
that this trend will not return in the future. Orders placed by major customers
are typically based on their forecasted sales and inventory levels for the
Company's products. Changes in purchasing patterns by one or more of the
Company's major customers, customer order changes or rescheduling, gain or loss
of significant customers, customer policies pertaining to desired inventory
levels of the Company's products, negotiations of rebates and extended payment
terms, as well as changes in the ability of the Company to anticipate in advance
the mix of customer orders, could result in material fluctuations in quarterly
operating results. Certain large OEM customers may require the Company to
maintain higher levels of inventory as such customers attempt to minimize their
own inventories. In addition, the Company must order its products and build
inventory substantially in advance of product shipments, and because the markets
for the Company's products are subject to rapid technological and price changes,
there is a risk the Company will forecast incorrectly and produce excess or
insufficient inventory of particular products. To the extent the Company
produces excess or insufficient inventory or is required to hold excess
inventory, the Company's operating results could be adversely affected.
Other factors that could cause the Company's sales and operating results
to vary significantly from period to period include: the time, availability and
sale of new products; seasonal OEM customer demand, such as the decline
experienced in the fiscal quarter ended June 30, 1996; changes in the mix of
products having differing gross margins; variations in manufacturing capacities,
efficiencies and costs; the availability and cost of components, including
silicon wafers; warranty expenses; variations in product development and other
operating expenses; and general economic and other conditions affecting the
timing of customer orders and capital spending. The Company's quarterly results
of operations are also influenced by competitive factors, including pricing and
availability of the Company's and its competitors' products. Although the
Company does not maintain its own wafer manufacturing facility, a large portion
of the Company's expenses are fixed and difficult to reduce in a short period of
time. If net revenues do not meet the Company's expectations, the Company's
fixed expenses would exacerbate the effect on net income of such shortfall in
net revenues. Furthermore, announcements by the Company, its competitors or
others regarding new products and technologies could cause customers to defer or
cancel purchases of the Company's products. Order deferrals by the Company's
customers, delays in the Company's introduction of new products and longer than
anticipated design-in cycles for the Company's products have in the past
adversely affected the Company's quarterly results of operations. Due to all of
the foregoing factors, as well as other unanticipated factors, it is likely that
in some future quarter or quarters the Company's operating results will be below
the expectations of public market analysts or investors. In such event, the
price of the Company's common stock would likely be materially and adversely
affected.
DEPENDENCE ON SMALL NUMBER OF CUSTOMERS
A small number of customers account for a substantial portion of the
Company's net revenues, and the Company expects that a limited number of
customers will continue to represent a substantial portion of the Company's net
revenues for the foreseeable future. The loss of any of the Company's major
customers would have a material adverse effect on its business, financial
condition and results of operations. In addition, a majority of the Company's
customers order the Company's products through written purchase orders as
opposed to long term supply contracts and, therefore, such customers are
generally not obligated to purchase products from the Company for any specified
period. Major customers also have significant leverage over the Company and may
attempt to change the terms, including pricing, upon which the Company and such
customers do business, which could materially adversely affect the
10
<PAGE> 11
Company's business, financial condition and results of operations. As the
Company's OEM customers are pressured to reduce prices as a result of
competitive factors, the Company may be required to contractually commit to
price reductions for its products before it knows how, or if, cost reductions
can be obtained. If the Company is unable to achieve such cost reductions, the
Company's gross margins could decline and such decline could have a material
adverse effect on the Company's business, financial condition and results of
operations. In addition, the Company provides its major distributors and certain
volume purchasers with price protection in the event that the Company reduces
the prices of its products. While the Company maintains reserves for such price
protection, there can be no assurance that the impact of future price reductions
by the Company will not exceed the Company's reserves in any specific fiscal
period. Any price protection in excess of recorded reserves could have a
material adverse effect on the Company's business, financial condition and
results of operations.
COMPETITION
The markets for both peripheral and host computer products are highly
competitive and are characterized by short product life cycles, price erosion,
rapidly changing technology, frequent product performance improvements and
evolving industry standards. Competition typically occurs at the design stage,
where the customer evaluates alternative design approaches. Because of shortened
product life cycles and even shorter design-in cycles, the Company's competitors
have increasingly frequent opportunities to achieve design wins in next
generation systems. A design win usually ensures a customer will purchase the
product until a higher performance standard is available or a competitor can
demonstrate a significant price/performance advantage. All of the Company's
products compete with products available from several companies, many of which
have substantially greater research and development, long term guaranteed supply
capacity, marketing and financial resources, manufacturing capability and
customer support organizations than those of the Company. The Company believes
that its future operating results will depend, in part, upon its ability to
continue to improve product and process technologies and develop new
technologies in order to achieve or maintain the performance advantages of
products and processes relative to competitors, to adapt products and processes
to technological changes, and to identify and adopt emerging industry standards.
Because of the complexity of its products, the Company has experienced delays
from time to time in completing products on a timely basis. If the Company is
unable to design, develop and introduce competitive new products on a timely
basis, its future operating results would be materially and adversely affected.
The Company currently competes primarily with Adaptec, Inc. and Symbios
Logic, Inc. In the Fibre Channel sector of the I/O market, the Company expects
to compete primarily with Adaptec, Inc., Symbios Logic, Inc. and Hewlett-Packard
Company. In the IDE sector, the Company expects to compete with Adaptec, Inc.
and Cirrus Logic, Inc. The Company may compete with some of its larger disk
drive and computer systems customers, some of which have the capability to
develop I/O controller integrated circuits for use in their products. At least
one large OEM customer in the past decided to vertically integrate and therefore
ceased purchases from the Company.
The Company will need to continue to develop products appropriate to its
markets to remain competitive as its competitors continue to introduce products
with improved performance characteristics. While the Company continues to devote
significant resources to research and development, there can be no assurance
that such efforts will be successful or that the Company will develop and
introduce new technology and products in a timely manner. In addition, while
relatively few competitors offer a full range of SCSI and other I/O products,
additional domestic and foreign manufacturers may increase their presence in,
and resources devoted to, these markets. There can be no assurance that the
Company will compete successfully in the future.
DEPENDENCE ON WAFER SUPPLIERS AND OTHER SUBCONTRACTORS
The Company currently relies on several independent foundries to
manufacture its semiconductor products either in finished form or wafer form.
The Company conducts business with its foundries through written purchase orders
as opposed to long term supply contracts and, therefore, such foundries are
generally not obligated to supply products to the Company for any specific
period, in any specific quantity or at any specified price, except as may be
provided in a particular purchase order as may be accepted by a foundry. To the
extent a foundry terminates its relationship with the Company or should the
Company's supply from a foundry be interrupted or terminated for any other
reason, the Company may not have a sufficient amount of time to replace the
supply of products manufactured by that foundry. Until recently, there has been
a worldwide shortage of advanced process technology foundry capacity. The
manufacture of semiconductor devices is subject to a wide variety of factors,
including the availability of raw materials, the level of contaminants in the
manufacturing environment, impurities in the materials used, and the performance
of personnel and equipment. The Company is continuously evaluating potential new
sources of supply. However, the qualification process and the production ramp-up
for additional foundries has in the past taken, and could in the future take,
longer than anticipated. There can be no assurance that new supply sources will
be able or willing to satisfy the Company's wafer requirements on a timely basis
or at acceptable quality or unit prices. While the quality, yield and timeliness
of wafer deliveries to date have been acceptable, there can be no assurance that
manufacturing yield problems will not occur in the future.
11
<PAGE> 12
The Company is using multiple sources of supply for certain of its
products, which may require the Company's customers to perform separate product
qualifications. The Company has not, however, developed alternate sources of
supply for certain other products and its newly introduced products are
typically produced initially by a single foundry until alternate sources can be
qualified. In particular, the Company's integrated single chip Fibre Channel
controller is manufactured by LSI Logic and integrates LSI Logic's transceiver
technology. In the event that LSI Logic is unable or unwilling to satisfy the
Company's requirements for this technology, the Company's attempt to market
Fibre Channel products would be delayed and, as such, its results of operations
could be materially and adversely affected. The requirement that a customer
perform separate product qualifications or a customer's inability to obtain a
sufficient supply of products from the Company may cause that customer to
satisfy its product requirements from the Company's competitors, which would
adversely affect the Company's results of operations.
The Company's ability to obtain satisfactory wafer and other supplies is
subject to a number of other risks. These risks include, without limit, that the
Company's suppliers may be subject to injunctions arising from alleged
violations of third party intellectual property rights. The enforcement of such
an injunction could impede a supplier's ability to provide wafers, components or
packaging services to the Company. In addition, the Company's flexibility to
move production of any particular product from one foundry to another can be
limited in that such a move can require significant re-engineering, which may
take several quarters. These efforts also divert engineering resources which
otherwise could be dedicated to new product development which would adversely
affect new product development schedules. Accordingly, production may be
constrained even though capacity is available at one or more foundries. In
addition, the Company could encounter supply shortages if sales grow
substantially. The Company uses domestic and offshore subcontractors for die
assembly of its semiconductor products purchased in wafer form, and for assembly
of its host adapter board products. The Company's reliance on independent
subcontractors to provide these services involves a number of risks, including
the absence of guaranteed capacity and reduced control over delivery schedules,
quality assurance and costs. The Company is also subject to the risks of
shortages and increases in the cost of raw materials used in the manufacture or
assembly of the Company's products. In addition, the Company may receive orders
for large volumes of products to be shipped within short periods, and the
Company may not have sufficient testing capacity to fill such orders.
Constraints or delays in the supply of the Company's products, whether because
of capacity constraints, unexpected disruptions at the Company's foundries or
subcontractors, delays in obtaining additional production at the existing
foundries or in obtaining production from new foundries, shortages of raw
materials, or other reasons, could result in the loss of customers and other
material adverse effects on the Company's operating results, including those
that may result should the Company be forced to purchase products from higher
cost foundries or pay expediting charges to obtain additional supply.
TRANSACTIONS TO OBTAIN MANUFACTURING CAPACITY; FUTURE CAPITAL NEEDS
Although the Company is currently not experiencing any difficulties in
obtaining sufficient foundry capacity due to the current abundance of worldwide
semiconductor fabrication capacity, the Company and the semiconductor industry
have in the past experienced shortages of available foundry capacity.
Accordingly, in order to secure an adequate supply of wafers, especially wafers
manufactured using advanced process technologies, the Company may consider
various possible transactions, including the use of "take or pay" contracts that
commit the Company to purchase specified quantities of wafers over extended
periods or equity investments in or advances to wafer manufacturing companies in
exchange for guaranteed production capacity, or the formation of joint ventures
to own and operate or construct foundries or to develop certain products. Any of
these transactions would involve financial risk to the Company and could require
the Company to commit substantial capital or provide technology licenses in
return for guaranteed production capacity.
RELIANCE ON HIGH PERFORMANCE COMPUTER AND COMPUTER PERIPHERAL MARKET
A significant portion of the Company's host adapter board products are
currently used in high-performance file servers, workstations and other office
automation products. The Company's growth has been supported by increasing
demand for sophisticated I/O solutions which support database systems, servers,
workstations, Internet/intranet applications, multimedia and telecommunications.
Should there be a slowing in the growth of demand for such systems, the
Company's business, financial condition and results of operations could be
materially and adversely affected.
As a supplier of controller products to manufacturers of computer
peripherals such as disk drives and other data storage devices, a portion of the
Company's business is dependent on the overall market for computer peripherals.
This market, which itself is dependent on the market for computers, has
historically been characterized by periods of rapid growth followed by periods
of oversupply and contraction. As a result, suppliers to the computer
peripherals industry from time to time experience large and sudden fluctuations
in demand for their products as their customers adjust to changing conditions in
their markets. If these fluctuations are not accurately anticipated, such
suppliers, including the Company, could produce excessive or insufficient
inventories of various components which could have a material adverse effect on
the Company's business, financial condition and results of operations.
12
<PAGE> 13
RAPID TECHNOLOGICAL CHANGE; DEPENDENCE ON NEW PRODUCTS; INDUSTRY STANDARDS
The markets in which the Company and its competitors compete are
characterized by rapidly changing technology, evolving industry standards and
continuing improvements in products and services. The Company's future success
depends on its ability to enhance its current products and to develop and
introduce in a timely manner new products that keep pace with technological
developments and industry standards, compete effectively on the basis of price
and performance, adequately address OEM customer and end-user customer
requirements and achieve market acceptance. The Company believes that to remain
competitive in the future it will need to continue to develop new products,
which will require the investment of significant financial resources in new
product development. In anticipation of the implementation of Fibre Channel data
transfer interface technologies, the Company has invested and will continue to
invest significant resources in developing its integrated circuit single chip
PCI to Fibre Channel controllers. There can be no assurance that Fibre Channel
will be adopted as a predominant industry standard. The Company is aware of
products for alternative I/O standards and enabling technologies being developed
by its competitors. The Company believes that certain competitors, including
Symbios Logic, Inc., have extensive development efforts related to products
based on the Low Voltage Differential ("LVD") technology. There can be no
assurance that such technology will not be adopted as an industry standard and
if an alternative standard is adopted, there can be no assurance the Company
will timely develop products for such standard. Further, even if Fibre Channel
is adopted, there can be no assurance that the Company's integrated PCI to Fibre
Channel controller will be fully developed in time to be accepted for use in
Fibre Channel technology or that, if developed, will achieve market acceptance,
or be capable of being manufactured at competitive prices in sufficient volumes.
In the event that Fibre Channel is not adopted as an industry standard, or that
the Company's integrated circuit PCI to Fibre Channel controllers are not timely
developed or do not gain market acceptance, the Company's business, financial
condition and results of operations could be materially and adversely affected.
The computer industry is characterized by various standards and
protocols that evolve with time. The Company's current products are designed to
conform to certain industry standards and protocols such as IDE, SCSI, Ultra
SCSI and PCI. In addition, the Company's Fibre Channel products have been
designed to conform with a standard that has yet to be uniformly adopted. The
Company's products must be designed to operate effectively with a variety of
hardware and software products supplied by other manufacturers, including
microprocessors, operating system software and peripherals. The Company depends
on significant cooperation with these manufacturers in order to achieve its
design objectives and produce products that interoperate successfully. While the
Company believes that it generally has good relationships with leading
microprocessor, systems and peripheral suppliers, there can be no assurance that
such suppliers will not from time to time make it more difficult for the Company
to design its products for successful interoperability. If industry acceptance
of these standards was to decline or if they were replaced with new standards,
and if the Company did not anticipate these changes and develop new products,
the Company's business, financial condition and results of operations could be
materially and adversely affected.
The Company could experience delays in product development that are
common in the computer and semiconductor industry. Significant delays in product
development and release would adversely affect the Company's business, financial
condition and results of operations. There can be no assurance that the Company
will respond effectively to technological changes or new product announcements
by other companies or that the Company's research and development efforts will
be successful. Furthermore, introduction of new products and moving production
of existing products to different suppliers involves substantial business risks
because of the possibility of product "bugs" or performance problems, in which
event the Company could experience significant product returns, warranty
expenses and expedite charges, in addition to lower sales and lower profits.
IDENTIFICATION AND INTEGRATION OF ACQUISITIONS
The Company anticipates that its future growth may depend in part on its
ability to identify and acquire complementary businesses, technologies or
product lines that are compatible to those of the Company. Acquisitions involve
numerous risks, including identifying and pursuing acquisitions, difficulties in
the assimilation of the operations, technologies and products of the acquired
companies, the diversion of management's attention from other business concerns,
risks associated with entering markets or conducting operations with which the
Company has no or limited direct prior experience, and the potential loss of key
employees of the acquired company. Moreover, there can be no assurance that the
anticipated benefits of an acquisition will be realized. There can be no
assurance that the Company will be effective in identifying and effecting
attractive acquisitions, assimilating acquisitions or managing future growth.
Future acquisitions by the Company could result in potentially dilutive
issuance's of equity securities, the incurrence of debt and contingent
liabilities and amortization expenses related to goodwill and other intangible
assets, all of which could materially adversely affect the Company's business,
financial condition, results of operations or stock price. With respect to the
possible amortization of goodwill, the Financial Accounting Standards Board
("FASB") may make pooling of interests accounting treatment for merger
transactions more difficult to attain, or may abolish such treatment altogether.
If the FASB does limit or eliminate pooling of interests accounting treatment,
the Company's ability to consummate merger transactions without incurring
goodwill would be materially and adversely affected.
13
<PAGE> 14
DEPENDENCE ON KEY PERSONNEL
The Company's future success is highly dependent on the continued
services of its key engineering, sales, marketing and executive personnel,
including highly skilled semiconductor design personnel and software developers,
and its ability to identify and hire additional personnel. The loss of the
services of key personnel could have a material adverse effect on the Company's
business, financial condition and results of operations. The Company believes
that the market for key personnel in the industries in which it competes is
highly competitive. In particular, the Company has experienced difficulty in
attracting and retaining qualified engineers and other technical personnel and
anticipates that competition for such personnel will increase in the future.
There can be no assurance that the Company will be able to attract and retain
key personnel with the skills and expertise necessary to develop new products in
the future, or to manage the Company's business, both in the United States and
abroad.
RISKS OF DOING BUSINESS IN INTERNATIONAL MARKETS
The Company expects that export revenues will continue to account for a
significant percentage of the Company's net revenues for the foreseeable future.
As a result, the Company is subject to various risks, which include: a greater
difficulty of administering its business globally; compliance with multiple and
potentially conflicting regulatory requirements such as export requirements,
tariffs and other barriers; differences in intellectual property protections;
difficulties in staffing and managing foreign operations; potentially longer
accounts receivable cycles; currency fluctuations; export control restrictions;
overlapping or differing tax structures; political and economic instability; and
general trade restrictions. The Company's export sales are invoiced in U.S.
dollars and, accordingly, if the relative value of the U.S. dollar in comparison
to the currency of the Company's foreign customers should increase, the
resulting effective price increase of the Company's products to such foreign
customers could result in decreased sales. There can be no assurance that any of
the foregoing factors will not have a material adverse effect on the Company's
business, financial condition and results of operations.
LACK OF SIGNIFICANT PATENT PROTECTION; INFRINGEMENT RISKS
Although the Company has patent protection on certain aspects of its
technology in certain jurisdictions, it relies primarily on trade secrets,
copyrights and contractual provisions to protect its proprietary rights. There
can be no assurance that these protections will be adequate to protect its
proprietary rights, that others will not independently develop or otherwise
acquire equivalent or superior technology or that the Company can maintain such
technology as trade secrets. There also can be no assurance that any patents the
Company possesses will not be invalidated, circumvented or challenged. In
addition, the laws of certain countries in which the Company's products are or
may be developed, manufactured or sold, including various countries in Asia, may
not protect the Company's products and intellectual property rights to the same
extent as the laws of the United States or at all. The failure of the Company to
protect its intellectual property rights could have a material adverse effect on
the Company's business, financial condition and results of operations.
There can be no assurance that patent or other intellectual property
infringement claims will not be asserted against the Company in the future.
Although patent and intellectual property disputes may be settled through
licensing or similar arrangements, costs associated with such arrangements may
be substantial and there can be no assurance that necessary licenses or similar
arrangements would be available to the Company on satisfactory terms or at all.
Accordingly, an adverse determination in a judicial or administrative proceeding
or failure to obtain necessary licenses could prevent the Company from
manufacturing and selling certain of its products, which would have a material
adverse effect on the Company's business, financial condition and results of
operations. In addition, should the Company decide to, or be forced to, litigate
such claims, such litigation could be expensive and time consuming, could divert
management's attention from other matters or could otherwise have a material
adverse effect on the Company's business, financial condition and results of
operations, regardless of the outcome of the litigation. The Company's supply of
wafers and other components can also be interrupted by intellectual property
infringement claims against its suppliers.
14
<PAGE> 15
PART II. OTHER INFORMATION
On September 23, 1997, the Board of Directors adopted an amendment to
the Rights Agreement dated June 4, 1996 under the Company's Shareholder Rights
Plan to increase the Purchase Price for each one one-one hundredth of a share of
preferred stock pursuant to the exercise of a Right from $45.00 to $225.00. The
Board of Directors had determined that, due to increases in the trading prices
of the Company's Common Stock and other factors that it deemed relevant, the
$45.00 Purchase Price would no longer serve as an adequate deterrent to the
abusive takeover practices the Shareholder Rights Plan is intended to deter. In
addition, the Board further amended the Rights Agreement to provide that any
future amendment would only be effective if approved by continuing members of
the Company's Board of Directors, or their designees. This provision is intended
to prevent an unfriendly acquiror of the Company from seizing control of the
Board of Directors and them amending the Rights Agreement for its own benefit.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27 Financial Data Schedule
(b) Reports on Form 8-K
The registrant has not filed any reports on Form 8-K during the quarter
for which this report is filed.
15
<PAGE> 16
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.
Date: November 10, 1997
QLOGIC CORPORATION
BY: /s/ H.K. DESAI
---------------------------------------
H.K. Desai
President and Chief Executive Officer
BY: /s/ THOMAS R. ANDERSON
---------------------------------------
Thomas R. Anderson
Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
16
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