<PAGE>
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
___________________
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 0-23596
___________________
C-CUBE MICROSYSTEMS INC.
(Exact name of registrant as specified in its charter)
Delaware 77-0192108
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1778 McCarthy Boulevard
Milpitas, California 95035
(Address and zip code of principal executive offices)
Registrant's telephone number, including area code: (408) 490-8000
Former name, former address and former fiscal year, if changed since last
year: N/A
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.
[X] Yes [ ] No
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
As of April 30, 1999, 39,147,956 shares of the registrant's Common Stock
were outstanding.
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<PAGE>
C-CUBE MICROSYSTEMS INC.
TABLE OF CONTENTS
Page
Part I. Financial Information
Item 1. Financial Statements:
Condensed Consolidated Balance Sheets
March 31, 1999 and December 31, 1998................... 2
Condensed Consolidated Statements of Income
Quarter ended March 31, 1999 and 1998.................. 3
Condensed Consolidated Statements of Cash Flows
Quarter ended March 31, 1999 and 1998.................. 4
Notes to Condensed Consolidated Financial Statements... 5
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.................... 8
Item 3. Quantitative and Qualitative Disclosures About
Market Risk............................................ 15
Part II. Other Information
Item 1. Legal Proceedings...................................... 16
Item 2. Changes in Securities and Use of Proceeds.............. 16
Item 3. Defaults Upon Senior Securities........................ 16
Item 4. Submission of Matters to a Vote of Security Holders.... 16
Item 5. Other Information...................................... 16
Item 6. Exhibits and Reports on Form 8-K....................... 16
Signatures....................................................... 17
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
<TABLE>
<CAPTION>
C-CUBE MICROSYSTEMS INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except par value amounts)
(Unaudited)
March 31, December 31,
1999 1998 (1)
--------- -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and equivalents $ 163,493 $ 108,224
Short-term investments 66,273 99,603
Accounts receivable - net 50,859 36,980
Inventories 12,766 16,073
Deferred income taxes 13,065 11,170
Other current assets 18,294 19,977
--------- ---------
Total current assets 324,750 292,027
Property and equipment - net 30,132 29,622
Production capacity rights 3,938 12,600
Distribution rights - net 1,442 1,483
Purchased technology - net 7,023 5,921
Other assets 1,345 1,518
--------- ---------
Total $ 368,630 $ 343,171
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 22,343 $ 19,942
Accrued liabilities 29,053 29,007
Income taxes payable 14,686 15,551
Deferred contract revenue 9,199 6,706
Current portion of long-term obligations 366 355
--------- ---------
Total current liabilities 75,647 71,561
Long-term obligations 20,040 23,557
Deferred income taxes 3,204 4,650
--------- ---------
Total liabilities 98,891 99,768
--------- ---------
Minority interest in subsidiary -- 28
Stockholders' equity:
Common stock, $0.001 par value, 150,000
shares authorized; shares outstanding:
1999 - 39,008; 1998 - 38,261 238,936 225,265
Accumulated other comprehensive loss (2,119) (1,852)
Retained earnings 32,922 19,962
--------- ---------
Total stockholders' equity 269,739 243,375
--------- ---------
Total $ 368,630 $ 343,171
========= =========
</TABLE>
- ------
(1) Derived from the December 31, 1998 audited balance sheet included in
the 1998 Annual Report on Form 10-K of C-Cube Microsystems Inc.
See notes to condensed consolidated financial statements.
-2-
<PAGE>
<TABLE>
<CAPTION>
C-CUBE MICROSYSTEMS INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
(Unaudited)
Quarter Ended March 31,
-----------------------
1999 1998
-------- --------
<S> <C> <C>
Net revenues $ 96,459 $ 87,317
-------- --------
Costs and expenses:
Cost of revenues 43,885 41,014
Research and development 19,904 17,671
Selling, general and administrative 16,360 14,586
-------- --------
Total 80,149 73,271
-------- --------
Income from operations 16,310 14,046
Other income, net 2,117 273
-------- --------
Income before income taxes, minority
interest and extraordinary item 18,427 14,319
Income tax expense 5,528 4,296
-------- --------
Income before minority interest
and extraordinary item 12,899 10,023
Minority interest in net loss of
subsidiary (28) (141)
-------- --------
Income before extraordinary item 12,927 10,164
Extraordinary gain on repurchase
of convertible notes(net of tax) 33 --
-------- --------
Net income $ 12,960 $ 10,164
======== ========
Earnings per share:
Basic $ 0.34 $ 0.27
======== ========
Diluted $ 0.32 $ 0.27
======== ========
Shares:
Basic 38,668 36,983
======== ========
Diluted 41,344 41,137
======== ========
</TABLE>
See notes to condensed consolidated financial statements.
-3-
<PAGE>
<TABLE>
<CAPTION>
C-CUBE MICROSYSTEMS INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Quarter Ended March 31,
------------------------
1999 1998
--------- ---------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 12,960 $ 10,164
Adjustments to reconcile net income to
net cash provided by operating activities:
Extraordinary gain on repurchase of
convertible notes, net of taxes (33) --
Minority interest in subsidiary (28) (141)
Depreciation and amortization 3,689 3,925
Deferred income taxes (3,341) (1,668)
Changes in assets and liabilities:
Receivables (14,041) 11,764
Inventories 3,207 (8,035)
Other current assets (1,409) 1,451
Accounts payable 2,574 10,467
Accrued liabilities 2,707 (1,147)
Income taxes payable (888) 5,599
Production capacity rights 11,700 --
Deferred revenue 2,493 (129)
--------- ---------
Net cash provided by operating activities 19,590 32,250
--------- ---------
Cash flows from investing activities:
Sales and maturities of short-term investments 120,295 16,510
Purchases of short-term investments (85,436) (4,128)
Capital expenditures (4,837) (4,367)
Other assets (2,010) 100
--------- ---------
Net cash provided by investing activities 28,012 8,115
--------- ---------
Cash flows from financing activities:
Repayments of capital lease obligations (121) (158)
Sale of common stock 11,126 3,483
Repurchase of convertible subordinated notes (3,271) --
--------- ---------
Net cash provided by financing activities 7,734 3,325
--------- ---------
Exchange rate impact on cash and equivalents (67) 76
--------- ---------
Net increase in cash and equivalents 55,269 43,766
Cash and equivalents, beginning of period 108,224 145,034
--------- ---------
Cash and equivalents, end of period $ 163,493 $ 188,800
========= =========
Supplemental schedule of noncash investing
and financing activities:
Unrealized gain (loss) on investments $ (108) $ 17
Supplemental disclosure of cash flow information -
Cash paid during the period for:
Interest $ 125 $ 102
Income taxes 7,149 571
</TABLE>
See notes to condensed consolidated financial statements.
-4-
<PAGE>
C-CUBE MICROSYSTEMS INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of presentation
The unaudited condensed consolidated financial statements contained
in this report have been prepared by C-Cube Microsystems Inc. ("C-Cube"
or the "Company"). In the opinion of management, such financial
statements include all normal recurring adjustments and accruals
necessary for a fair presentation of the Company's financial position as
of March 31, 1999, and the results of operations for the quarters ended
March 31, 1999 and 1998 and cash flows for the quarters ended March 31,
1999 and 1998. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted in
accordance with the rules and regulations of the Securities and Exchange
Commission. This unaudited quarterly information should be read in
conjunction with the audited consolidated financial statements of C-Cube
and the notes thereto included in the Company's Annual Report on Form 10-K
for the year ended December 31, 1998.
2. Inventories
Inventories are stated at the lower of cost (first-in, first-out)
or market. Cost is computed on a currently adjusted standard basis
(which approximates actual cost on a current average or first-in, first-out
basis). Inventories consist of:
<TABLE>
March 31, December 31,
1999 1998
--------- -----------
(in thousands)
<S> <C> <C>
Finished goods $ 6,335 $ 3,566
Work-in-process 3,689 6,281
Raw materials 2,742 6,226
-------- --------
Total $ 12,766 $ 16,073
======== ========
</TABLE>
3. Production capacity rights
In January 1999, Taiwan Semiconductor Manufacturing Company Ltd.
(TSMC) refunded $11.7 million of an advance payment to the Company.
Readers are referenced to "Item 8, Note 3. Production Capacity Rights"
in the Company's most recent Annual Report on Form 10-K, filed with the
Securities and Exchange Commission on March 23, 1999, for further
discussion.
4. Acquisition of assets
On January 21, 1999, the Company acquired the communication
technology, patents and personnel of TV/COM International, Inc., a
California corporation and wholly owned subsidiary of Mindport. The
purchase price for the assets acquired was immaterial in amount. The
purchase price was allocated on the basis of the estimated fair value of
the assets acquired, which included purchased technology and fixed
assets. The purchased technology portion is being amortized over 7
years.
-5-
<PAGE>
5. Earnings per share
The following table sets forth the computation of basic and diluted
earnings per share (in thousands, except per share amounts):
<TABLE>
Quarter Ended March 31,
------------------------
1999 1998
-------- --------
<S> <C> <C>
Numerator:
Income before extraordinary item $ 12,927 $ 10,164
Extraordinary item 33 --
-------- --------
Numerator for basic earnings per share 12,960 10,164
Addback interest income after tax related
to convertible shares 205 937
-------- --------
Numerator for diluted earnings per share $ 13,165 $ 11,101
======== ========
Denominator:
Weighted-average shares - denominator for
basic earnings per share 38,668 36,983
Convertible shares 716 2,809
Dilutive common stock equivalents, using
treasury stock method 1,960 1,345
-------- --------
Denominator for diluted earnings per share 41,344 41,137
======== ========
Basic earnings per share $ 0.34 $ 0.27
======== ========
Diluted earnings per share $ 0.32 $ 0.27
======== ========
</TABLE>
6. Comprehensive income
For the quarters ended March 31, 1999 and 1998, comprehensive
income, which was comprised of the Company's net income for the periods,
changes in accumulated translation adjustments and unrealized gains
(losses) on investments, was $12.7 million and $10.2 million,
respectively.
7. Extraordinary item
During the first quarter, the Company repurchased $3.4 million of
the face value of the Company's 5-7/8% Convertible Subordinated Notes
due 2005 at 95.5% of the principal amount, with accrued interest to the
date of repurchase, and recognized an extraordinary gain of $33,000
(zero effect per diluted share), net of related income taxes of $23,000.
8. Segment information
On December 31, 1998, the Company adopted Statement of Financial
Accounting Standards No. 131, "Disclosures About Segments of an
Enterprise and Related Information." Readers are referenced to "Item 8,
Note 17. Segment Information" in the Company's most recent Annual Report
on Form 10-K, filed with the Securities and Exchange Commission on March 23,
1999, for further discussion.
-6-
<PAGE>
Segment information is as follows:
<TABLE>
Quarter Ended March 31,
-----------------------
1999 1998
--------- ---------
(in thousands)
<S> <C> <C>
Revenues: (1)
Semiconductor $ 58,287 $ 56,823
DiviCom 38,172 30,494
--------- ---------
Consolidated net revenues $ 96,459 $ 87,317
========= =========
Income from operations:
Semiconductor $ 11,966 $ 10,489
DiviCom 4,344 3,557
--------- ---------
Consolidated income from operations $ 16,310 $ 14,046
========= =========
Segment assets:
Semiconductor $ 277,129 $ 257,335
DiviCom 91,501 74,525
--------- ---------
Consolidated net assets $ 368,630 $ 331,860
========= =========
</TABLE>
-----
(1) Revenues are shown net of eliminations of intersegment revenues.
This presentation is consistent with the Company's internal
presentation of financial information to management.
9. Recently issued accounting standards
In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities," which establishes accounting and reporting standards for
derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities. It requires
that an entity recognize all derivatives as either assets or liabilities
in the statement of financial position and measure those instruments at
fair value. Adoption of this statement is not expected to materially
impact the Company's consolidated financial position, results of
operations or cash flows. The Company is required to adopt this
statement in the first quarter of fiscal year 2000, with early adoption
permitted.
-7-
<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This report contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. The forward-looking statements involve risks and
uncertainties. Actual results could differ materially from those projected
in the forward-looking statements as a result of certain factors, including
those set forth in this Item 2, those described elsewhere in this report
and those described in the Company's Form 10-K for the year ended December
31, 1998, other Form 10-Qs and other reports under the Securities Exchange
Act of 1934. Such forward-looking statements include, but are not limited
to, those statements marked with an asterisk (*) in this report. The
Company assumes no obligation to update any forward-looking statements.
Quarter Ended March 31, 1999
The following table sets forth certain operating data as a percentage
of net revenues for the quarters ended March 31, 1999 and 1998:
<TABLE>
Quarter Ended March 31,
----------------------
1999 1998
------ ------
<S> <C> <C>
Net revenues 100.0% 100.0%
Costs and expenses:
Cost of revenues 45.5 47.0
Research and development 20.6 20.2
Selling, general and administrative 17.0 16.7
------ ------
Total 83.1 83.9
------ ------
Income from operations 16.9 16.1
Interest income, net 2.2 0.3
------ ------
Income before income taxes, minority
interest and extraordinary item 19.1 16.4
Income tax expense 5.7 4.9
------ ------
Income before minority interest
and extraordinary item 13.4 11.5
Minority interest in net loss
of subsidiary -- (0.2)
Income before extraordinary item 13.4 11.6
------ ------
Extraordinary gain (net of tax) -- --
Net income 13.4% 11.6%
====== ======
</TABLE>
Production Capacity Rights
In January 1999, Taiwan Semiconductor Manufacturing Company Ltd. (TSMC)
refunded $11.7 million of an advance payment to the Company. Readers are
referenced to "Item 8, Note 3. Production Capacity Rights" in the Company's
most recent Annual Report on Form 10-K, filed with the Securities and
Exchange Commission on March 23, 1999, for further discussion.
Net Revenues
Net revenues in the first quarter of 1999 were $96.5 million, an
increase of 10.5% over the $87.3 million reported in the corresponding
quarter a year ago. This increase was led by growth in sales of DiviCom's
encoder products, attributable to design improvements and feature and
quality enhancements on next generation products, as well as significant
growth in international sales. During 1999, DiviCom recognized additional
revenue growth from higher volume shipments of its cable and data
networking products. Semiconductor revenues increased primarily from higher
volumes of decoder chips used in DVD consumer applications and DVD-ROMs on
PCs, resulting from customers' adoption of the Company's ZiVA(tm) family of
decoder chips and wider acceptance of the DVD format. Growth in sales of
-8-
<PAGE>
codec products also contributed to the increase in semiconductor revenues.
These increases were partially offset by decreased sales of decoder chips
sold into the China market. This decline was due to a reduction in
shipments and increased price competition. The reduction to revenues caused
by the decrease in volume of VideoCD decoder chips is partially offset by
higher average selling prices for Chaoji VCD decoder chips, also sold into
the China market. The Company believes the market for VideoCD and Chaoji
VCD applications will gradually decline as the market becomes saturated and
as consumers adopt DVD applications in their place.*
International revenues accounted for 65% of net revenues for the first
quarter, compared to 61% for the same period last year. The Company expects
that international revenues will continue to represent a significant
portion of net revenues.* The Company's success will depend in part upon
its ability to manage international marketing and sales operations. In
addition, C-Cube purchases a substantial portion of its manufacturing
services from foreign suppliers. C-Cube's international manufacturing and
sales are subject to changes in foreign political and economic conditions
and to other risks including currency or export/import controls, changes in
tax laws, tariffs and freight rates and changes in the ownership and/or
leadership of international customers that may result in delayed or
canceled orders. For example, China is the primary market for VideoCD and
Chaoji VCD players utilizing the Company's decoder products. As a
consequence, any political or economic instability in China could
significantly reduce demand for the Company's products. The Company has
made a significant investment in additional foundry capacity in Taiwan and
is subject to the risk of political instability in Taiwan, including but
not limited to the potential for conflict between Taiwan and the People's
Republic of China. The Company sells products to customers in Korea and is
subject to the risk of economic and political instability in Korea,
including the potential for conflict between North and South Korea. In
addition, the Company sells certain of its products in international
markets and buys certain products from its foundries in currencies other
than the U.S. dollar and, as a result, currency fluctuations could have a
material adverse effect on the Company's business and results of
operations. With respect to international sales that are denominated in
U.S. dollars, increases in the value of the U.S. dollar relative to foreign
currencies can increase the effective price of and reduce demand for the
Company's products relative to competitive products priced in the local
currency. The United States has considered trade sanctions against Japan
and has had disputes with China relating to trade and human rights issues.
If trade sanctions were imposed, Japan or China could enact trade sanctions
in response. Because a number of the Company's current and prospective
customers and suppliers are located in Japan and China, trade sanctions, if
imposed, could have a material adverse effect on C-Cube's business and
results of operations. Similarly, protectionist trade legislation in either
the United States or foreign countries could have a material adverse effect
on the Company's ability to manufacture or sell its products in foreign
markets.
The Asian consumer electronics markets accounted for approximately 49%
of total Company sales in the first quarter of 1999 and are expected to
continue to account for a substantial, though declining, percentage of
sales in the future.* The economic instability in Asia has been
characterized by increases in idle production capacity, real estate
vacancies, unemployment and bank failures, and has resulted in currency
devaluation, falling consumer spending and domestic price deflation. Any of
these factors could significantly reduce the demand for the end user goods
in which the Company's products are incorporated. In the first quarter of
1999, most of the Company's sales in Asia were of decoder chips, which are
used in VideoCD and Chaoji VCD players. The Company believes purchases of
VideoCD and Chaoji VCD players are not as likely to be deferred as are
purchases of higher priced consumer durables and production equipment,
which have dramatically impacted U.S. export sales.* However, there can be
no assurance that the Company will not experience reduced sales of its
semiconductor products into Asia because of declining consumer spending or
because of its customers' increasing difficulty in obtaining letters of
credit, which the Company generally requires prior to shipment.
-9-
<PAGE>
Gross Margin
C-Cube's gross margin for the first quarter of 1999 was 54.5% compared
to a gross margin of 53.0% for the same quarter last year. This increase
was primarily the result of changes in product mix, as sales of products
with higher gross margins contributed more to revenues in the first quarter
of 1999. This was primarily due to increased sales of DiviCom's encoder
products and Semiconductor's DVD and codec products. The Company also
realized operating efficiencies, including reduced material costs relating
to its semiconductor and DiviCom products, refinement of its semiconductor
fabrication process and the reduction of outside manufacturing costs, all
of which led to improvements in gross margin during the period. These
operating efficiencies were partially offset by higher product transition
costs, higher employee-related costs for headcount growth in integration
and support services and higher project materials costs. The improvements
to gross margin were additionally offset by reductions in the average
selling prices of many of the Company's semiconductor products during the
current period.
The markets into which C-Cube sells its products are subject to extreme
price competition. Thus, the Company expects to continue to experience
declines in the selling prices of its products over the life cycle of each
product.* In particular, C-Cube expects to continue to experience
significant price competition in the markets for decoder chips.* In order
to offset or partially offset declines in the selling prices of its
products, C-Cube must continue to reduce the costs of products through
product design changes, manufacturing process changes, volume discounts,
yield improvements and other savings negotiated with its manufacturing
subcontractors. Since the Company does not believe that it can continually
achieve cost reductions which fully offset the price declines of its
products, it expects gross margin percentages to decline for existing
products over their life cycles.*
C-Cube does not operate its own manufacturing facilities and must make
volume commitments to subcontractors at prices that remain fixed over
certain periods of time. Therefore, the Company may not be able to reduce
its costs as rapidly as its competitors who perform their own
manufacturing. Failure of the Company to design and introduce, in a timely
manner, lower cost versions of existing products or higher gross margin new
products, or to successfully manage its manufacturing subcontractor
relationships, would have a material adverse effect on C-Cube's gross
margins.
Research and Development Expenses
In the first quarter of 1999, research and development expenses were
$19.9 million, or 20.6% of net revenues, compared with $17.7 million, or
20.2% of net revenues in the first quarter of 1998. The increase in
research and development expenses primarily represents additional employee-
related costs associated with increases in product engineering staff,
reflecting the Company's continuing efforts to provide industry leading
digital video solutions at the chip and systems levels.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased to
$16.4 million, or 17.0% of net revenues, in the first quarter of 1999,
compared to $14.6 million, or 16.7% of net revenues, for the same quarter
last year. The increase was primarily due to increased headcount and
related expenses, as the Company continues to increase its international
coverage in sales and marketing.
Other Income (Expense)
Other income, net of other expense, increased to $2.1 million for the
first quarter of 1999, compared to $0.3 million for the first quarter of
1998. The improvement over the prior year quarter is primarily due to
higher interest income earned on higher average cash and investment
balances and lower interest expense on lower average outstanding debt
balances.
-10-
<PAGE>
Income Tax Expense
The Company's effective tax rate for the first quarter of 1999 was 30%.
The Company's effective tax rate is less than the combined federal and
state statutory rate primarily due to tax credits and lower foreign tax
rates.
Extraordinary Item
During the first quarter, the Company repurchased $3.4 million of the
face value of the Company's 5-7/8% Convertible Subordinated Notes due 2005
at 95.5% of the principal amount, with accrued interest to the date of
repurchase, and recognized an extraordinary gain of $33,000 (zero effect
per diluted share), net of related income taxes of $23,000.
Factors that May Affect Future Results
The Company's quarterly and annual operating results have been, and
will continue to be, affected by a wide variety of factors that could have
a material adverse effect on revenues and profitability during any
particular period, including the timing of revenue recognized under its
systems contracts and the level of orders which are received and can be
shipped in a quarter, the rescheduling or cancellation of orders by its
customers, competitive pressures on selling prices, changes in product or
customer mix, availability and cost of foundry capacity and raw materials,
fluctuations in yield, loss of any strategic relationships, C-Cube's
ability to introduce new products and technologies on a timely basis,
unanticipated problems in the performance of the Company's next generation
or cost-reduced products, the ability to successfully introduce products in
accordance with OEM design requirements and design cycles, new product
introductions by the Company's competitors, market acceptance of products
of both C-Cube and its customers, compatibility of new products with
emerging digital video standards, purchase commitments for customized
components procured in advance of anticipated systems contracts, supply
constraints for other components incorporated into its customers' products,
credit risk for international customers not using letters of credit,
fluctuations in foreign currency exchange rates to the U.S. dollar, the
level of expenditures in manufacturing, research and development, and
sales, general and administrative functions, and a recent trend of mergers
and acquisitions creating larger competitors which may have established
market share or greater financial or technical resources than the Company.*
In addition, C-Cube's operating results are subject to fluctuations in
the markets for its customers' products, particularly the consumer
electronics and personal computer markets, which have been extremely
volatile in the past, and the digital satellite broadcast, cable and
wireless cable markets, which are in an early stage, creating uncertainty
with respect to product volume and timing. To the extent the Company is
unable to fulfill its customers' purchase orders on a timely basis, these
orders may be canceled due to changes in demand in the markets for its
customers' products. Historically, the Company has shipped a substantial
portion of its product in the last month of a given quarter. A significant
portion of C-Cube's expenses are fixed in the short term, and the timing of
increases in expenses is based in large part on the Company's forecast of
future revenues. As a result, if revenues do not meet the Company's
expectations, it may be unable to quickly adjust expenses to levels
appropriate to actual revenues, which could have a material adverse effect
on the Company's business and results of operations.
Due to the Company's dependence on the consumer electronics market, the
substantial seasonality of sales in that market could impact the Company's
revenues and net income. In particular, C-Cube believes that there may be
seasonality in the Asia-Pacific region related to the Chinese New Year,
which falls within the first calendar quarter, which could result in
relatively lower product demand during the second and third quarters of
each year.* If in the future the geographic mix of the Company's sales
-11-
<PAGE>
shifts towards the U.S. and Europe, C-Cube would anticipate higher revenues
and net income in the third and fourth calendar quarters as system
manufacturers in these regions make purchases in preparation for the
holiday season, and comparatively less revenues and net income in the first
and second calendar quarters.*
The economic instability in Asia has been characterized by increases in
idle production capacity, real estate vacancies, unemployment and bank
failures, and has resulted in currency devaluation, falling consumer
spending and domestic price deflation. Any of these factors could
significantly reduce the demand for the end user goods in which the
Company's products are used.
As a result of the foregoing, the Company's operating results and stock
price may be subject to significant volatility, particularly on a quarterly
basis. Any shortfall in net revenues or net income from levels expected by
securities analysts could have an immediate and significant adverse effect
on the trading price of the Company's common stock.
The market price of C-Cube's common stock has fluctuated significantly
since its initial public offering in April 1994. The market price of the
common stock could be subject to significant fluctuations in the future
based on factors such as announcements of new products by C-Cube or its
competitors, quarterly fluctuations in C-Cube's financial results,
quarterly fluctuations in other semiconductor or digital video networking
companies' financial results, changes in analysts' estimates of C-Cube's
financial performance, general conditions in the semiconductor and digital
video networking industries, conditions in the financial markets and
general conditions in the global economy which might adversely affect
consumer purchasing. In addition, the stock market in general has
experienced extreme price and volume fluctuations, which have particularly
affected the market prices for many high technology companies and which
have often been unrelated to the operating performance of the specific
companies. The market price of C-Cube's common stock has declined
substantially from its historic highs, and may continue to experience
significant fluctuations in the future.
Year 2000
The Company is aware of the issues associated with the programming code
in existing computer systems as the millennium (Year 2000) approaches. The
Year 2000 problem is pervasive and complex, as virtually every computer
operation will be affected by the rollover of the two digit year value to
00. The issue is 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. C-Cube has initiated a Year 2000 project designed to
identify and assess the risks associated with its information systems,
products, operations and infrastructure, suppliers and customers that are
not Year 2000 compliant, and to develop, implement and test remediation and
contingency plans to mitigate these risks. C-Cube is replacing or upgrading
systems, equipment and facilities that are known to be Year 2000 non-
compliant. For the Year 2000 non-compliance issues identified to date, the
Company does not expect the cost of upgrade or remediation to exceed
$500,000, which is not expected to be material to the Company's operating
results.* If implementation of replacement systems is delayed, or if
significant new non-compliance issues are identified, the Company's results
of operations or financial condition could be materially adversely
affected.
INFORMATION SYSTEMS. A review of the Company's information systems has
been completed and the Company has initiated the work necessary for the
existing systems to become Year 2000 compliant. Testing of all information
systems will be conducted and completed before the end of 1999.* The
Company is also actively reviewing its hardware and systems infrastructure,
such as networks, in order to ensure that they are Year 2000 compliant.
Based on the current status of the assessments and remediation plans made
to date, the Company expects to have all critical Year 2000 information
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systems issues resolved and does not expect total Year 2000 related costs
pertaining to its information systems and hardware and systems
infrastructure to be material.*
PRODUCTS. The Company has assessed the capabilities of its
semiconductor products sold to customers and has not identified any
significant problems related to Year 2000 compliance. The Company has
identified and assessed the risks related to integrated systems sold by its
DiviCom segment. Products manufactured by DiviCom are either Year 2000
compliant or have an available upgrade to bring them into compliance. To be
in compliance for the Year 2000, the Company suggests that customers obtain
a full system upgrade. All customers will be sent a notification letter
describing the compliance status of the products purchased by the customer,
along with the procedures necessary to bring those products into compliance
for the Year 2000. Such letters will be mailed to such customers during the
second quarter of 1999.* Customers with service contracts and customers
with whom the Company has specific Year 2000 contractual obligations will
be offered upgrades at no charge. The Company expects to complete this
process before the end of 1999.*
DiviCom products are often installed with third party hardware and
software. The Company does not comment as to the Year 2000 compliance of
third party hardware and software products. Accordingly, DiviCom recommends
that customers verify the Year 2000 compliance status of third party
hardware and software products and that customers schedule their own Year
2000 system validation tests during 1999 after Year 2000 upgrades are
performed. DiviCom has not assessed all possible customer configurations,
nor can it anticipate all customer situations, particularly those involving
third party products. As a result, the Company may see an increase in
warranty and other claims resulting from the Year 2000 transition process.
In addition, litigation against the Company regarding Year 2000 compliance
issues may occur in the future. For these reasons, the impact of customer
claims could have a material adverse impact on the Company's results of
operations or financial condition.
OPERATIONS AND INFRASTRUCTURE. Machinery and equipment and other items
used in the operations and facilities of the Company have been inventoried
and are currently being assessed for Year 2000 compliance. This assessment
has determined that the company's security systems are not Year 2000
compliant. The Company is currently in the process of replacing such system
with a Year 2000 compliant system. This process will be completed before
the end of 1999.* No other material deficiencies were detected from our
assessments.
SUPPLIERS. C-Cube is in the process of contacting its critical
suppliers to determine whether their operations, products and services are
Year 2000 compliant. Where practicable, C-Cube will attempt to mitigate its
risks with respect to the failure of suppliers to be Year 2000 compliant.
In the event that suppliers are not Year 2000 compliant, the Company will
seek alternative sources of supplies. However, such failures remain a
possibility and could have a material adverse impact on the Company's
results of operations or financial condition.
CUSTOMERS. The Company is actively responding to all customer requests
for compliance, surveys and other general information related to its
Year 2000 programs.
GENERAL. The Company does not currently expect its costs associated
with the Year 2000 problem to exceed $500,000, and expects to be able to
fund these costs through operating cash flows.* However, the Company has
not yet completed its assessments, developed remediation plans for all
problems, developed contingency plans, or completely implemented or tested
any of its remediation plans. The risks associated with the Year 2000
problem can be difficult to identify and to address, and could result in
material adverse consequences to the Company. Even if the Company, in a
timely manner, completes all of its assessments, identifies and tests
remediation plans believed to be adequate and develops contingency plans
believed to be adequate, some problems may not be identified or corrected
in time to prevent material adverse consequences to the Company.
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<PAGE>
As the Year 2000 project continues, the Company may discover additional
Year 2000 problems, may not be able to develop, implement, or test
remediation or contingency plans in a timely manner, or may find that the
costs of these activities exceed current expectations and become material.
In many cases, the Company is relying on assurances from suppliers and
customers that new and upgraded information systems and other products will
be Year 2000 compliant. The Company plans to test certain third-party
products, but cannot be sure that its tests will be adequate or that, if
problems are identified, they will be addressed by the supplier in a timely
and satisfactory way.
Because the Company uses a variety of information systems and has
additional systems embedded in its operations and infrastructure, the
Company cannot be sure that all of its systems will work together in a
Year 2000-compliant fashion. Furthermore, the Company cannot be sure that
it will not suffer business interruptions, either because of its own
Year 2000 problems or those of its customers or suppliers whose Year 2000
problems may make it difficult or impossible for them to fulfill their
commitments to the Company. If the Company fails to satisfactorily resolve
Year 2000 issues related to its products in a timely manner, it could be
exposed to liability to third parties.
The Company has not developed a "worst case" scenario with respect to
Year 2000 issues, but instead has focused its resources on identifying
material, remediable problems and reducing uncertainties generally, through
the Year 2000 project described above.
If the Company or the third parties with which it has relationships
were to cease or not successfully complete its or their Year 2000
remediation efforts, the Company would encounter disruptions to its
business that could have a material adverse effect on its business,
financial position and results of operations. The Company could be
materially and adversely impacted by widespread economic or financial
market disruption or by Year 2000 computer system failures at third parties
with which it has relationships.
Liquidity and Capital Resources
Cash, cash equivalents and short-term investments were $229.8 million
at March 31, 1999 compared to $207.8 million at the end of 1998. Working
capital increased to $249.1 million at March 31, 1999 from $220.5 million
at the end of 1998.
The Company's operating activities generated cash of $19.6 million in
the first quarter of 1999, primarily from net income and a refund of
$11.7 million prepaid production capacity rights, partially offset by
increased accounts receivable. Receivable days outstanding increased from
35 days at December 31, 1998 to 47 days at March 31, 1999 primarily due to
DiviCom's growing percentage contribution to consolidated revenues since a
substantial portion of DiviCom's revenues are generated under long-term
contracts which generally have longer collection cycles than the
semiconductor business.
C-Cube's investing activities, exclusive of sales and maturities of
$120.3 million and purchases of $85.4 million of short-term investments,
used cash of $6.8 million, primarily for $4.8 million capital expenditures.
Cash provided by financing activities was $7.7 million, primarily from
proceeds of $11.1 million from sales of stock pursuant to employee stock
plans, partially offset by $3.3 million used to repurchase a portion of the
Company's Convertible Subordinated Notes.
At March 31, 1999, the Company had an available bank line of credit of
$30.0 million which expires in May 2001. Borrowings bear interest at LIBOR
plus 1.25% or the bank's prime rate (7.75% at March 31, 1999). The line of
credit agreement requires that the Company, among other things, maintain a
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<PAGE>
minimum tangible net worth, a minimum annual net income (no quarterly loss
exceeding $3 million) and certain financial ratios. In addition, this
agreement prohibits the payment of cash dividends. At March 31, 1999, the
Company was in compliance with these covenants, and there were no
outstanding balances under this line.
Based on current plans and business conditions, C-Cube expects that its
cash, cash equivalents and short-term investments together with any amounts
generated from operations and available borrowings, will be sufficient to
meet the Company's cash requirements for at least the next 12 months.*
However, there can be no assurance that the Company will not be required to
seek other financing sooner or that such financing, if required, will be
available on terms satisfactory to the Company, or at all. In addition, the
Company has considered and will continue to consider various possible
transactions with foundries to secure additional foundry capacity, which
could include, without limitation, equity investments, prepayments, non-
refundable deposits or loans in exchange for guaranteed capacity, "take or
pay" contracts that commit the Company to purchase specified quantities of
wafers over extended periods, joint ventures or other partnership
relationships.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Readers are referenced to "Part II, Item 7A. Quantitative and
Qualitative Disclosures about Market Risk", in the Company's most recent
Annual Report on Form 10-K, filed with the Securities and Exchange
Commission on March 23, 1999.
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<PAGE>
C-CUBE MICROSYSTEMS INC.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
From time to time the Company is party to certain litigation or
legal claims. Management has reviewed all pending legal matters and
believes that the resolution of such matters will not have a
significant adverse effect on the Company's financial position or
results of operations.
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
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit
Number Description
------- -----------------------
27.1 Financial Data Schedule
(b) Reports on Form 8-K
None.
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<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
C-Cube Microsystems Inc.
(Registrant)
Dated: May 14, 1999 By: /s/ Walt Walczykowski
----------------- ----------------------------
Walt Walczykowski
Vice President of Finance
and Chief Financial Officer
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<PAGE>
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